Benjamin Graham taught that Intelligent Investors must do a thorough fundamental analysis of investment opportunities to determine their intrinsic value and inherent risk. This is best done by utilizing a systematic approach to analysis that will provide investors with a sense of how a specific company compares to another company or by reviewing the 5 Most Undervalued Companies for the Defensive Investor – November 2014. By using the ModernGraham method one can review a company’s historical accomplishments and determine an intrinsic value that can be compared across industries. What follows is a specific look at how Lorillard Inc. (LO) fares in the ModernGraham valuation model.
Company Profile (obtained from Google Finance): Lorillard, Inc. (Lorillard), through its subsidiaries, is engaged in the manufacture and sale of cigarettes and electronic cigarettes. The Company has two segments: Cigarettes and Electronic Cigarettes. The Cigarettes segment consists principally of the operations of Lorillard Tobacco Company and related entities. The Electronic Cigarettes segment consists of the operations of LOEC, Inc. (doing business as blu eCigs), and Cygnet UK Trading Limited (trading as SKYCIG) and related entities. Newport, the Company’s flagship premium cigarette brand, includes both menthol and non-menthol product offerings. In addition to the Newport brand, its product line has four additional brand families marketed under the Kent, True, Maverick, and Old Gold brand names. These five brands include 43 different product offerings, which vary in price, taste, flavor, length and packaging. Lorillard markets electronic cigarettes under the blu eCigs and SKYCIG brands.
Defensive Investor – must pass at least 6 of the following 7 tests: Score = 3/7
- Adequate Size of Enterprise – market capitalization of at least $2 billion – PASS
- Sufficiently Strong Financial Condition – current ratio greater than 2 – FAIL
- Earnings Stability – positive earnings per share for at least 10 straight years – PASS
- Dividend Record – has paid a dividend for at least 10 straight years – FAIL
- Earnings Growth – earnings per share has increased by at least 1/3 over the last 10 years using 3 year averages at beginning and end of period – PASS
- Moderate PEmg ratio – PEmg is less than 20 – FAIL
- Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – FAIL
Enterprising Investor – must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 4/5
- Sufficiently Strong Financial Condition, Part 1 – current ratio greater than 1.5 – PASS
- Sufficiently Strong Financial Condition, Part 2 – Debt to Net Current Assets ratio less than 1.1 – FAIL
- Earnings Stability – positive earnings per share for at least 5 years – PASS
- Dividend Record – currently pays a dividend – PASS
- Earnings growth – EPSmg greater than 5 years ago – PASS
|MG Opinion||Fairly Valued|
|Value Based on 3% Growth||$43.69|
|Value Based on 0% Growth||$25.61|
|Market Implied Growth Rate||6.24%|
|Net Current Asset Value (NCAV)||-$8.45|
Balance Sheet – September 2014
Earnings Per Share
Earnings Per Share – ModernGraham
Lorillard Inc. is suitable for the Enterprising Investor but not for the Defensive Investor. The Defensive Investor is concerned by the low current ratio, lack of dividend stability over the last ten years, and the poor PEmg and PB ratios. The Enterprising Investor’s only initial concern is the level of debt relative to the current assets. As a result, Enterprising Investors following the ModernGraham approach based on Benjamin Graham’s methods should feel very comfortable proceeding with further research and comparing the company to other opportunities. As for a valuation, the company appears to be fairly valued after growing its EPSmg (normalized earnings) from $1.94 in 2010 to an estimated $3.01 for 2014. This level of demonstrated growth supports the market’s implied estimate of 6.24% earnings growth and leads the ModernGraham valuation model, based on Benjamin Graham’s formula, to return an estimate of intrinsic value within a margin of safety relative to the price.
Be sure to check out previous ModernGraham valuations of Lorillard Inc. (LO) for greater perspective!
The next part of the analysis is up to individual investors, and requires discussion of the company’s prospects. What do you think? What value would you put on Lorillard Inc. (LO)? Where do you see the company going in the future? Is there a company you like better? Leave a comment on our Facebook page or mention @ModernGraham on Twitter to discuss.
Disclaimer: The author did not hold a position in Lorillard Inc. (LO) or in any other company mentioned in this article at the time of publication and had no intention of changing that position within the next 72 hours. Logo taken from Wikipedia for the sole purpose of identifying the company; this article is not affiliated with the company in any manner.