Yes, the stock market has been on an incredible upward tear, but there has also been a lot of volatility and a lot of stocks left behind. Are there any out there that are outrageously cheap?

I got to thinking about this the other day when I was talking to an investor who was bragging about how much money he'd made on Ford (NYSE: F) and Citigroup (NYSE: C) since February. He was particularly proud because these were stocks I'd specifically told him not to buy (too complicated, was my reasoning). But he thought they were outrageously cheap and now they're up more than 100% each in a matter of months.

That said, the whole market is up, and given wary financial markets and weak jobs data, it should be clear that not all stocks that look cheap are cheap.

There are, however, some individual stocks today that, for one reason or another, not only present "good value" but are not as complicated as Ford and Citigroup were, but still outrageously cheap.

Back up the truck, people
What makes for an outrageously cheap stock? Here's my short list:

  1. A balance sheet with lots of cash and little debt.
  2. An EV/EBITDA ratio less than 6. (That's enterprise value/earnings before interest, taxes, depreciation, and amortization.)
  3. A business with the financial strength and strategy to survive and thrive in a down economy.
  4. No potential for massive writedowns.

Now there are only a handful of large or mid caps that meet those criteria, so if you really want to build an "outrageously cheap" portfolio, you may need to start thinking of yourself as a small-cap investor.

Welcome to the jungle
In truth, large caps such as Pfizer (NYSE: PFE) attract far too much investor attention to ever become really inefficiently priced. That $112 billion pharmaceutical giant is tracked by 22 sell-side analysts.

You generally won't find as much interest among small caps, which is one of the reasons why -- given the criteria above -- Graham Corp. (AMEX: GHM), KBR (NYSE: KBR), and The (Nasdaq: TSCM) look outrageously cheap.



Net Cash on Hand

Investors Scared Because ...

Graham Corp.


$45 million

Weakness in energy sector spending.



$1.1 billion

Weakness in energy sector spending.


$65 million

Weakness in online advertising.

Data from Capital IQ, a division of Standard and Poor's.

Yes, that last subhead was a Guns N' Roses reference
The reason we love being small-cap investors at Motley Fool Hidden Gems is because it's the one area of the market where, thanks to inefficiencies and lack of Wall Street interest, stocks can become outrageously cheap. And there's good reason to think that things will get better for all three of these stocks. Of course, in a down market like this one, that lack of efficiency can make for some gut-wrenching downside volatility.

But we're using current market conditions to recommend the market's best small companies -- stocks that should crush the market averages over the next decade or more.

To see our newest recommendations and top picks for new money now, click here to join Hidden Gems free for 30 days. There is no obligation to subscribe.

Already subscribe to Hidden Gems? Log in here.

This article was first published on March 14, 2008. It has been updated.

Tim Hanson does not own shares of any company mentioned. Pfizer is a Motley Fool Inside Value recommendation. The Fool's disclosure policy is decidedly un-outrageous.