“Cheap” is a relative term on the stock market, particularly given that indexes are up over 200% in the past decade. But even a broad rally like that can leave many stocks undervalued relative to their peers and to their long-term growth potential.
Below, we’ll look at three such investments. Read on to find out why Motley Fool contributors see room for big gains ahead for..
A misunderstood retailer
Daniel Miller (AutoNation): As is often the case, a stock trading at an absurdly cheap valuation has plenty of pessimism surrounding its business: AutoNation. To be fair, investors are shying away from owning shares of the largest automotive dealership group in America at a time when new-vehicle sales are plateauing after years of growth, and that makes sense. However, if you have a long-term mindset and buy into Buffett’s mantra of buying when others are fearful, AutoNation could be a long-term winner and is currently trading at a paltry 9x price-to-earnings ratio.
If you’re still nervous about owning shares of AutoNation amid peak sales cycle, let’s dive into what makes AutoNation more than just a vehicle retailer. Let’s use the first-quarter data for this example: Roughly 50% of first-quarter revenue was generated by sales of new vehicles, with another 26% generated by sales of used vehicles. Seventeen percent of first-quarter revenue was generated by parts and service, with the remaining revenue coming from finance and insurance, and other. With roughly 76% of revenue surely to feel the pressure from slowing sales, the good news is that its parts and service business actually keeps the lights on. Consider that parts and service, with only 17% of first-quarter revenue, accounted for 47% of the company’s gross profit. Finance and insurance generated nearly 28% of gross profit, while sales of new and used vehicles generated 14% and almost 11%, respectively.
AutoNation’s parts and service gross profit machine is what enabled first-quarter earnings per share to hit a record at a time when same-store sales declined 5% and total revenue dropped 5.3%. Long-term investors can bank on the company’s bottom line being more resilient thanks to its parts and service business, but the company will have to adapt in the coming years. One sign of it adapting is the company’s agreement with Alphabet‘s self-driving company, Waymo, to service its autonomous vehicles. Sure, servicing driverless vehicles is nowhere near being a financial driving force for AutoNation, but it’s important that management figures out its future revenue streams now.
Many are fearful of owning an auto retailer currently, and that’s fair, but its bottom line is safer than many understand, and at a price-to-earnings ratio of 9x, savvy long-term investors could scoop up a winner for cheap.
Set sail for profits
Demitri Kalogeropoulos (Carnival): Their stocks normally move in concert with each other, but recently Carnival shares have dramatically underperformed Royal Caribbean’s, setting up a potential buy opportunity for investors interested in the cruise vacation industry.
Just like its smaller peer, Carnival in 2018 closed out another fiscal year of…
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