Seagate Technology (STX) is my Stock Pick of the Week as well as one of September’s Most Attractive Stocks.
Like all of our Most Attractive Stocks the company has (1) high and rising economic profits (as distinct from accounting profits**) and (2) a cheap valuation. As shown in our report on STX, the company’s ROIC is in the Top Quintile of all the companies we cover and its economic earnings are growing. At the same time, the stock’s valuation implies that STX’s profits will decline by 80% (EIGHTY PERCENT)and never grow again. In other words, the stock market is predicting a permanent decline of 80% in STX’s profits. I’d say those are some low expectations.
HIDDEN GEM: Our discounted cash flow analysis shows that STX’s current valuation (stock price of $11.24) implies that the company’s profits will decline by 80% and never grow again. Our economic earnings models shows profits are growing, not declining, which makes the Risk/Reward for STX Very Attractive.
For details on what causes the difference between Economic Versus Accounting Profits, see Appendix 3 on page 10 of our report on STX. See Appendix 4 to learn how STX increased NOPAT by cutting costs and increased its NOPAT Margin from -1.0% to 16.2%. See Appendix 5 for details on how STX grew Invested Capital slower than revenue and drove Invested Capital Turns higher. Appendix 7 (in the Return on Invested Capital section) shows how the improved NOPAT Margin and rising Invested Capital Turns result in an increase in ROIC (from -1.6% to 29.7%) and Economic Profit, which rose by $1,925mm.
As per Investment Strategy 101 and How to make money picking stocks, STX fits the profile of a great stock to buy.
**See Finance 101 and Economic Versus Accounting Profits for more detail on why accounting profits are not reliable indicators of corporate profitability or value creation.