2 cheap stocks in unloved industries

When the market gets disappointed about an industry’s prospects, bargains can develop.

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Like many value investors, I like to go through out-of-favour industries to see what potential bargains I can find. Sometimes it may be that the market’s attention has been pulled elsewhere. Other times an industry has some definite problems and earnings are sagging.

I’m looking for companies that have a good earnings history and could make a comeback when situations change.

One is Downer EDI Limited (ASX: DOW), an engineering and infrastructure management company. Its biggest business segments are for infrastructure, mining and rail stock manufacturing and maintenance.

About 30% of its 2013 revenue was mining related, so it is pushing expansion in other segments like oil and gas. Its 2014 interim results had falls in both revenue and earnings from subdued business conditions and some big contracts finishing up.

A number of new contracts have been awarded since November, but have not made a material impact on earnings yet. One of them is beginning the mining development work for the proposed Roy Hill iron ore mine in WA. That’s the kind of news to look for- future earnings potential that offsets the mining pullback.

Since June 2013, its share price has recovered from about $3.20 to $4.95 currently. Its PE is 10.5 and the dividend yield is 4.5%.

Seven Group Holdings Ltd (ASX: SVW) is a diversified operating and investment company that has in its portfolio such investments as a 35.33% shareholding in Seven West Media Ltd (ASX: SWM) and a 100% ownership in the WesTrac, a Caterpillar equipment and vehicle dealership network and maintenance services company.

Revenue in the WesTrac business was way down in the first half of FY2014 compared to the previous corresponding period due to the softness in the coal mining sector and a reduction in new iron ore projects.

As mining normalises, the company should see more revenue from maintenance services as previously sold equipment wears down and needs to be replaced. The share price may be at a point where practical levels of business with the current mining situation are factored in.

It hit a low of $7 a share in December 2013 and now is $8.24. It has a dividend yield of 4.9%.

Foolish takeaway

The worst may be over, yet in the case of Seven Group, it needs to show it can grow the heavy equipment and vehicle business while the mining industry adjusts.

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Motley Fool contributor Darryl Daté-Shappard does not own shares in any company mentioned. 

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