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MagicDiligence (< 20)

4 "Not Quite" Magic Formula Stocks

Recs

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October 22, 2009 – Comments (2) | RELATED TICKERS: RAI , MCO , AMSG

What we know for certain about the screening criteria at the official Magic Formula site is detailed in The Little Book that Beats the Market and on the site itself. The appendix in particular of Joel Greenblatt's book provides some details as to how both earnings yield and return on capital are calculated. Many (including MagicDiligence) have tried to recreate the statistics to meet those from the screen, and in general have gotten pretty close. But the exact formulas remain, like Coca-Cola (KO), a well-kept secret (the "new" official site doesn't even list them anymore).

This has led to some questions as to why certain stocks that certainly appear to have Magic Formula statistics don't appear on the screen. Using the alternative MFI screen at Magic Formula Investing EU, I've dug up and verified 4 interesting stocks that seem to have MFI statistics yet do not appear on any of the official screens. They might be worth some additional research by both MFI and value investors in general.

Reynolds American (RAI)

Market Cap: 16.5 billion
Earnings Yield: 10.02%
MFI Return on Capital: 236.09%
5-yr Expected Growth Rate: 5%
Forward Dividend Yield: 7.30%

Comments: Reynolds is the 2nd largest cigarette and tobacco maker in the U.S. with such well-known brands as Camel, Kool, Winston, and Kodiak. MFI has dug up cigarette makers in the past, including Lorillard (LO) and Vector Group (VGR), both current MFI stocks. Reynolds has a very high dividend yield, and like most cigarette makers, great cash flows. One downside is its reliance on the secular declining U.S. market.

Moody's (MCO)

Market Cap: 5.9 billion
Earnings Yield: 10.36%
MFI Return on Capital: 217.03%
5-yr Expected Growth Rate: 10.4%
Forward Dividend Yield: 1.70%

Comments: With McGraw-Hill (MHP) being a perennial MFI stock, it's hard to figure why Moody's never shows up. The two companies trade virtually together, holding a near-duopoly in debt rating. Moody's is an excellent business, but being a more pure play on rating, carries more business risk than MHP if the feds decide to crack down hard on raters due to ultimately poor ratings assigned to complex instruments during the housing boom.

LHC Group (LHCG)

Market Cap: 581 million
Earnings Yield: 14.16%
MFI Return on Capital: 123.65%
5-yr Expected Growth Rate: 15.7%
Forward Dividend Yield: 0.00%

Comments: A hospice home-care provider, LHCG is yet another stock where some of its competitors have appeared on MFI (notably scandal ridden Amedisys - AMED), but has been somehow looked over. Both earnings yield and return on capital are excellent here, and clearly home care is a growth market with an aging U.S. population and lower costs than institutional care. LHC has a solid balance sheet, and with AMED under a microscope, could be an interesting play in this sector.

AmSurg (AMSG)

Market Cap: 700 million
Earnings Yield: 23.48%
MFI Return on Capital: 128.25%
5-yr Expected Growth Rate: 12.1%
Forward Dividend Yield: 0.00%

Comments: AmSurg operates ambulatory surgery centers. This one reminds me of former MagicDiligence Top Buy Mednax (MD), where the main business model is acquiring more and more practice groups. It is really cheap, but the acquisitive nature of the company leads to a large goodwill balance which skews the MFI return on capital number. That said, ambulatory surgery is an excellent lower-cost alternative than hospital surgery, putting this firm in the sweet spot of healthcare reform.


Steve owns no position in any stocks discussed in this article.

2 Comments – Post Your Own

#1) On October 23, 2009 at 12:08 AM, Eudemonic (69.18) wrote:

MagicD:

Here's one Fool who appreciates your contribution to the CAPS community...  Thanks, eud... +1rec.

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#2) On April 13, 2010 at 9:27 PM, JestYourFool (< 20) wrote:

Magic, I was researching some stocks and found your blog.  Thanks for the research and information!

Jest

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