If I had to sum up the email in one short sentence, it is this.
I found Xunlei (XNET) and bought it at ~4.7 because its cash > stock price. I sold it at ~8, however it is 21 now.
Even by selling at around $8, a 70% return in a couple of months is nothing to sneeze at and goes to show there are always pockets of value you can take advantage of before the market catches on.
XNET has come and gone, but how about we use the same idea and see what else is out there?
Step 1: Setting Up the Screen
Just like how the best way to catch fish is to use a fish finder to go directly where they are located, using a screener is the obvious tool of choice.
I didn’t ask what filters he used to find XNET, but here’s my screenshot of looking for cheap stocks. Net Net Screener Filter | Source: old school value screener
I have 2 basic filters in the screen.
- Piotroski F score, TTM between 5 and 9. Because I want to limit my choices to cheap stocks with some okay fundamentals. The Pio F score does it all for me.
- Price to NCAV between 0 and 1. Anything inside this range will mean that the NCAV is greater than the market cap. It must be between 0 and 1. If NCAV is negative, it means there is a lot of debt, and if NCAV is greater than 1, it means it is not a net net.
NCAV = Net Current Asset Value = Current Assets – Total Liabilities
By using NCAV, I’m not looking for strictly cash in the company. A good Price to NCAV company reveals an asset-rich company with decent fundamentals.
Step 2: Setting Up the Report
Once the screen is set up, to make it easy to share with you, I’ve created a custom report to show the data I’m keen on looking at. I’ll call it my “Net Net Report” and I’m using the following data points in my report.
My Custom Net Net Report | Source: old school value screener
- market cap
- Price to NCAV
- Piotroski F score, TTM
- Action Score Grade
- Quality Score Grade
- Value Score Grade
- Growth Score Grade
This report provides a bird’s eye view of the fundamentals and what type of company I’m looking at.
China Is Still Cheap And A Checklist To Follow
What I see in my results is that many Chinese firms make the list.
If you don’t know my history with Chinese stocks, I lost a lot of money in 2011 in a Chinese Company called China MediaExpress. This was when Chinese companies became a US-listed stock by buying an existing shell company.
I still have a bad taste in my mouth when thinking about it. Maybe it’s time to move on from that and see what is out there. After all, you have the big powerhouses like Alibaba (BABA), JD.com (JD) and Tencent Holding (OTCPK:TCEHY).
Many of the smaller China scam companies have been taken down and the ones that are active today, do seem legit.
- CGA has a P/NVAC of 0.15
- OSN has a P/NCAV of 0.19
- BRON has a P/NCAV of 0.26
- CURE has a P/NCAV of 0.28
The Piotroski score is not bad either.
I won’t go into these specific companies, because at face value, they look too good to be true.
But to look at net nets, a simple process is to stick to the following:
- Stay Within Circle Of Competence – look at industries and businesses you understand.
- Has a Valid Operating Business – find out whether the business is real.
- Low Cash Burn – compare the cash balance each quarter and see how quickly it is going down.
- No Debt Or Very Easily Manageable – check debt levels and compare to cash.
- No Insider Selling
- Signs of Buybacks
I’ve written about this before in this net net analysis example and checklist.
Cheap Stock Results
Using the 6 steps above, I’ve made available the list of stocks for you to go through on your own.
For the sake of this article, I’m taking it an extra step and filtering out OTC stocks. This leaves me with the following results.
As you can see, they are all small to micro-caps. I yearn for the days when net nets were bountiful.
Let’s check out a few cheap stocks.
Friedman Industries (FRD)
A perennial cheap stock. I wrote about it previously and said that it’s a good buy. Seems like whenever I make a bold claim, I’m wrong (message to self: read that lesson on being overconfident lol).
I first wrote and bought Friedman when it was $9.68 and the NCAV was $7.29. I ended up selling at a loss as the economy became tougher on the company. Today, it’s at $5.80. The market cap is $40.6m and the NCAV is $43.9M.
Since 2013, the margins have shrunk, profits have disappeared, growth has turned negative, cash balance is running low.
Using the checklist from above.
- Stay Within Circle Of Competence – FAIL. Not a difficult industry, but cyclical nature makes it difficult to be successful and get right.
- Has A Valid Operating Business – PASS. Not a shell company.
- Low Cash Burn – FAIL. Cash burn has increased. Cash balance is also low. As it failed this #3 checklist, there’s no reason to continue with FRD. But here’s what the cash burn looks like each quarter.
Financial Statement Analysis | Source: old school value financial statement analysis
4. No Debt Or Very Easily Manageable – skip it
5. No Insider Selling – skip it
6. Signs Of Buybacks – skip it
Richardson Electronics (RELL)
Here’s another company that brings back memories.
Important point about net nets and other cheap stocks is that the majority fall back into the net net range. Companies with bad business models or management may go up temporarily (a year or two), but they somehow manage to become cheap again.
What this means is that you should not expect net nets to be a long-term hold in your portfolio. Once it reaches your sell price, whether it be NCAV or a certain price, sell and move on.
In the case for RELL, its NCAV is $104.17M and market cap is $82.62M. This is a P/NCAV of 0.79. Put another way, a 20% discount to NCAV.
It’s important to check the quality of the assets. I don’t want to run into a stock like FRD where the assets decreased and lowered the NCAV and stock price.
- Stay Within Circle Of Competence – PASS. I used to work in the RF and telecom industry. RELL was a competitor. It’s not difficult to understand. Just as you don’t need to know the full specs and inner workings of an iPhone, you don’t need to know 100% about the products.
- Has A Valid Operating Business – PASS.
- Low Cash Burn – PASS. Cash burn has slowed down. Makes more sense to look at RELL from an annual burn.
- No Debt Or Very Easily Manageable -PASS.
- No Insider Selling – PASS
- Signs of Buybacks – FAIL. This one is good to have. Not a must have.
Richardson Electronics passes the mandatory items of the short checklist, but not a company I want to bet big on. It is best to buy along with a basket of cheap stocks and distribute the allocation evenly among them to limit damage.
With the list of stocks I’m sharing, I’ll be working and making a list of viable options. Until there are enough companies I can buy like this, I’ll hold off on purchasing any shares. The best way is to make a bucket purchase of such cheap stocks and see how Ben Graham’s teaching still works after all these years.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.