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 – June 2015. 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 stock analysis showing a specific look at how Regal-Beloit Corporation (RBC) fares in the ModernGraham valuation model.
Company Profile (obtained from Google Finance): Regal Beloit Corporation is a global manufacturer electric motors and controls, electric generators and controls, and power transmission products. The Company operates through three segments: Commercial and Industrial Systems segment, which designs, manufactures and sells Fractional, integral and large horsepower motors and controls, electronic variable speed controls and blowers, Solid state and electro-mechanical starters, contactors, relays, variable frequency drives and motors, artificial lift system pumping equipment, Precision stator and rotor kits, Hazardous duty motors and Electric generators; Climate Solutions segment, which designs, manufactures and sells Fractional motors, electronic variable speed controls and blowers, and Power Transmission Solutions segment, which designs, manufactures and markets enclosed gear drives, gearmotors, transmissions and custom open gearing used for motion control within complex equipment and systems.
Defensive Investor – must pass at least 6 of the following 7 tests: Score = 5/7
- Adequate Size of Enterprise – market capitalization of at least $2 billion – PASS
- Sufficiently Strong Financial Condition – current ratio greater than 2 – PASS
- 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 – PASS
- 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 – FAIL
- 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 – PASS
Enterprising Investor – must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 3/5
- 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 – FAIL
|Value Based on 3% Growth||$48.58|
|Value Based on 0% Growth||$28.48|
|Market-Implied Growth Rate||7.10%|
Balance Sheet – March 2015
Earnings Per Share
Earnings Per Share – ModernGraham
Regal-Beloit Corporation is not suitable for either the Defensive Investor or the Enterprising Investor. The Defensive Investor is concerned with the insufficient earnings growth over the last ten years, and the high PEmg ratio. The Enterprising Investor is concerned with the lack of earnings growth over the last five years and the level of debt relative to the net current assets. As a result, value investors following the ModernGraham approach based on Benjamin Graham’s methods should explore other opportunities. As for a valuation, the company appears to be overvalued after seeing its EPSmg (normalized earnings) drop from $3.55 in 2011 to only an estimated $3.35 for 2015. This level of demonstrated earnings growth does not support the market’s implied estimate of 7.1% annual earnings growth over the next 7-10 years. As a result, the ModernGraham valuation model, based on Benjamin Graham’s formula, returns an estimate of intrinsic value well below the price.
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 Regal-Beloit Corporation (RBC)? 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 any 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.