There are plenty of ways to define “cheap” when it comes to investing and the phrase “cheap and nasty” is sometimes not far away! One way to define cheap is in terms of the asset backing (also referred to as book value) of a company. This can be thought of as the “replacement value” or “wind-up value” of a company’s assets – although generally speaking an analyst needs to make a number of adjustments to the stated book value to arrive at a realistic valuation.
A more conservative form of value involves removing a company’s intangible assets to arrive at the net tangible asset (NTA) backing. Where a company’s share price is significantly below its NTA there could be “cheapness”, however it is important to not forget that the stock may be cheap for a reason – that’s the “nasty” part!
After stripping away some mining service stocks which could easily be subject to further downgrades in their asset bases, Qantas Airways Limited (ASX: QAN) which could be facing a number of potential structural changes, and resource stocks where determining asset value regularly requires not only a geology degree but also intimate knowledge of the ore base, here are a few stocks from the S&P/ASX 300 Index (Index: ^AXKO) (ASX: XKO) which caught my eye for their large stated discounts to NTA.
1) Astro Japan Property Group (ASX: AJA) as its name suggests owns a range of office, retail and residential property in Japan. With a reported NTA of $5.68 at the company’s recent interim result and a share price $3.94, the gap between the two is 45%.
2) Aveo Group (ASX: AOG) has restructured itself from the former FKP Property Group and is now purely focused on retirement villages. With Aveo’s trading at $2 per share and the NTA as at 31 December 2013 at $2.78, this represents a discount of 39%.
3) Infigen Energy Ltd (ASX: IFN) owns and operates a suite of 24 wind farms across Australia and the USA. The share price last traded at 21 cents but with the NTA value at 29 cents per share (cps), a discount of 38% is on offer and there could be an opportunity for investors interested in owning renewable energy assets.
4) Australian Pharmaceutical Industries Ltd (ASX: API) is a major wholesale distributor of goods to the pharmacy industry primarily under the company-owned banner brands of Priceline and Soul Pattinson. With NTA of 77 cents and a share price of 58 cents, the stock is trading at a 32% discount to NTA.
5) Australia Agricultural Company Ltd (ASX: AAC) is one of Australia’s largest landowners and beef producers. As at 30 September 2013 its NTA was $1.58, however with the shares trading at $1.30, a discount of 22% is available.
A discount to stated net tangible asset backing can sometimes be used to identify an undervalued company, however it is important to firstly analyse the balance sheet in detail to determine if it is an accurate reflection of either replacement cost or wind-up value and secondly to analyse the company’s future outlook and consider if it is more likely NTA will decline than the share price rise.
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Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.