3 stocks with over 20% upside potential

These above-average companies have below-average multiples.

An often used proxy for estimating next year’s earnings of a company is to use “consensus earnings.”  Consensus earnings refer to the average forecast based on a collection of broking analysts who publish a forecast for a particular stock.

For example, investment banks and brokers such as Macquarie Group (ASX: MQG) and Wilson HTM (ASX: WIG) employ equity analysts within their stock broking divisions to “cover” different companies. This involves keeping up to date on a company, making an educated estimate of its earnings over the next couple of years and determining a “fair” value for the stock.

Analysts who work for brokers spend a lot of time following the companies they “cover,” so in aggregate the next year consensus number is often a reasonable approximation. Morningstar is one provider that aggregates analyst estimates to provide a consensus number which investors may find to be a useful guide or reference point when conducting valuation.

Many investors choose to use the price-to-earnings (PE) ratio for valuing stocks. While there are limitations to the PE ratio as an accurate valuation measure, it can be a good start provided the investor considers not only whether the stock in question deserves to sell at a premium or discount  PE ratio compared with either its peer group or the wider market but also considers whether the peer/market PE is reasonable. This style of valuation can be called relative valuation.

Currently the S&P/ASX 200 Index (Index: ^AXJO) (ASX: XJO) is trading on a forward PE of about 14.5 times. With that in mind here are three companies that arguably deserve to trade at least in line with the market multiple, yet based on Morningstar’s consensus estimates of earnings per share (EPS) for financial year 2014 are trading at more than a 20% discount.

  • Seven Group (ASX: SVW) Share Price $8.13, EPS 70 cents, value at market multiple $10.15, implies 25% upside.
  • Orica (ASX: ORI) Share Price $20.30, EPS 179.2 cents, value at market multiple $25.98, implies 28% upside. (note September year-end)
  • Bradken (ASX: BKN) Share Price $5.77, EPS 55.2, value at market multiple $8, implies 38.6% upside. 

Foolish takeaway

As noted above, there are dangers with setting a company’s value based on the market multiple, so this should be just the starting point for investors to help uncover potentially undervalued stocks.

The next step for investors is to determine whether adjustments above or below the market multiple are required to take in company-specific factors before arriving at a conservative estimate of fair value.

After a great stock that’s reasonably priced and paying a healthy dividend? Discover The Motley Fool’s favourite income idea for 2013-2014 in our brand-new, FREE research report, including a full investment analysis! Simply click here for your FREE copy of “The Motley Fool’s Top Dividend Stock for 2013-2014.”

More reading


Motley Fool contributor Tim McArthur owns shares in Macquarie Group and Wilson HTM.

Wondering where you should invest $1,000 right now?

When investing expert Scott Phillips has a stock tip, it can pay to listen. After all, the flagship Motley Fool Share Advisor newsletter he has run for over ten years has provided thousands of paying members with stock picks that have doubled, tripled or even more.*

Scott just revealed what he believes could be the five best ASX stocks for investors to buy right now. These stocks are trading at near dirt-cheap prices and Scott thinks they could be great buys right now.

*Returns as of January 12th 2022

More on ⏸️ Investing

Close up of baby looking puzzled
Retail Shares

What has happened to the Baby Bunting (ASX:BBN) share price this year?

It's been a volatile year so far for the Aussie nursery retailer. We take a closer look

Read more »

woman holds sign saying 'we need change' at climate change protest
ETFs

3 ASX ETFs that invest in companies fighting climate change

If you want to shift some of your investments into more ethical companies, exchange-traded funds can offer a good option

Read more »

a jewellery store attendant stands at a cabinet displaying opulent necklaces and earrings featuring diamonds and precious stones.
⏸️ Investing

The Michael Hill (ASX: MHJ) share price poised for growth

Investors will be keeping an eye on the Michael Hill International Limited (ASX: MHJ) share price today. The keen interest…

Read more »

ASX shares buy unstoppable asx share price represented by man in superman cape pointing skyward
⏸️ Investing

The Atomos (ASX:AMS) share price is up 15% in a week

The Atomos (ASX: AMS) share price has surged 15% this week. Let's look at what's ahead as the company build…

Read more »

asx share price competitions represented by businessmen arm wrestling
Retail Shares

How does the Temple & Webster (ASX:TPW) share price stack up against Nick Scali (ASX:NCK)?

How does the Temple & Webster (ASX: TPW) share price stack up against rival furniture retailer Nick Scali Limited (ASX:…

Read more »

A medical researcher works on a bichip, indicating share price movement in ASX tech companies
Healthcare Shares

The Aroa (ASX:ARX) share price has surged 60% since its IPO

The Aroa (ASX:ARX) share price has surged 60% since the Polynovo (ASX: PNV) competitor listed on the ASX in July.…

Read more »

asx investor daydreaming about US shares
⏸️ How to Invest

How to buy US shares from Australia right now

If you have been wondering how to buy US shares from Australia to gain exposure from the highly topical market,…

Read more »

person reading news on mobile phone
⏸️ Investing

Why Fox (NASDAQ:FOX) might hurt News Corp (ASX:NWS) shareholders

News Corporation (ASX: NWS) might be facing some existential threats from its American cousins over the riots on 6 January

Read more »