Stock Value Finder

KSW Inc [ticker: KSW] is a company that installs HVAC systems in buildings. If you spend a little bit of time looking at the chart you’ll notice the stock fell from a high of $8.5 to a low of $6.5 at the end of July, it has since recovered to around $7/share.

I will assume much of the sell-off has occurred because investors are panicing over the housing market bust. KSW rises and falls with commercial real estate investment.

Debt/Equity:

No debt on the books

Warnings:

One thing I’m concerned about is the fact that since June the CEO has been dumping stock. There have been 14 form 4’s filed since June 18th. All of the forms include sales. Maybe the CEO needs to pay rent or something, but the frequency and amount are concerning.  On some days the insider selling amounts to 20% of the volume for the day.  This is a big red flag for me.

Pros:

According to this press release the company has $90 million dollars in backlog.

2Q earnings were $.12/share vs $.10 same period last year

Cash of $2.77/sh

Cons:

As noted in the 10-K the company is considering pursuing an acquisition in either the same field, or a different line of business for diversification (diworsification most of the time).

This is a small cap stock (43 million market capitalization), this could result in large bid-ask spreads, or liquidity problems when purchasing or selling.

The $90 million backlog is based on contracts that have been signed that have contingency clauses and allow customers to back out.  I don’t consider this a reliable number.

Dividend Policy:

There is currently a $1.96/sh dividend.  Which at the current price of $6.90 works out to be a 27.8% dividend.  I’m not sure how long this dividend can be sustained at this level.

Long Term Growth:

I think KSW has some nice long term growth prospects.  Commercial real estate didn’t appreciate as much as residential real estate during the current boom.  Also this type of business is very stable over the long term as long as the company is in a good financial position to weather the storm.  I think KSW has enough cash to weather this housing boom if they cut their dividend and do not encounter any delays in their backlog.

Management: 

I don’t really have any information on management except for the insider selling noted above.

Current Share Details:

Price: $6.90

I have been reading and researching something called magic formula investing.  It was introduced to me via Joel Greenblatt in his book “The Little Book that Beats the Market“.  Information about the formula can be found on his site or via Google, I don’t plan on rehashing any of it here.

I have decided to venture into MFI (magic formula investing) by putting some of my own hard earned cash towards it.  Joel recommends purchasing 20-25 stocks from the MFI list in groups of 5-7 quarterly.  This method aims to capture the average of the MFI stocks, and diversifying an investor.  He recommends that if an investor is comfortable with indepth research that it’s possible to yield the same results with only 5-7 stocks in the portfolio.  This is the strategy that I will be using, modified slightly, I will invest in 10 stocks, in two batches of five at a time.

In preparation for my first batch I have been researching the stocks that appear on the MFI top 25 list.  My first screen was looking each up in Morningstar.  Of the 25 stocks 10  are covered by Morningstar’s equity analysts.  There are 3 four star, 2 three star, 1 two star, and 3 one star stocks, one stock is unrated.

My next screen is to run through the SEC filings reading almost everything submitted.  I will be crunching some numbers to determine trends, and possibly extrapolate longer term trends.  In looking at the filings I’m looking for earnings quality, and possibly warnings signs that would make me stay away from the stock.  All of the stocks on the MFI list are there because of high return on capital, and low earnings yield, so determining if the stock is a value or below intrinsic value is a somewhat pointless exercise.

For my MFI series of blog posts I plan on including the following items about each stock I research:

• debt/equity
• pros/cons of the business
• potential timebombs (hopefully some insight as to why the stocks on the list)
• cash flow
• dividend policy
• long term growth potential
• any insight into management

Each post in this series will start with an [MFI #] in the title.  Keep posted!

Sun Microsystems recently changed it’s ticker from SUNW to JAVA.  It appears that with the new ticker they’re trying to re-invent their stock price through a reverse split.  The details for the split are found here.

According to the SEC filing the reverse split will increase EPS, reduce shareholder transaction costs, and increase share price.  I agree that all of these will be true, but through a little smoke and mirrors instead of the normal technique of growing the business.

It should be noted that I don’t have an axe to grind with Sun.  I like their software Solaris and Java.  I think they make world class hardware, and I think they have some of the most intelligent people in the IT industry working for them.  What I do have a problem with is pulling tricks with the stock to create an illusion that the company is worth more than it really is.

As of the price today once the reverse split is completed JAVA’s new price will stand around $21/share.  I get the sense that with the ticker change and the higher price due to the split they’re trying to lure new investors into the company and pump the price up.

Note to Sun:  If you want your share price to rise legitimately have your sales force return calls from clients.  License Solaris technologies to other companies.  Introduce a rock bottom server to get new clients in the door.  No more reverse splits will be needed.

Disclaimer: I do not own a position in JAVA, although I do own a Sun server, and have used the Solaris operating system, and the Java programming language.