Countrywide Financial Corporation CFC:NYSE

The sub-prime mortgage disasters continue to be exposed for being high stakes high flying gamblers on folks with poor credit. The mess is further complicated by high priced areas such as California causing a priced-out panic over the past three to four years. This priced-out panic caused a huge rush of unqualified and uneducated would be buyers to run down to their local mortgage shop hoping to qualify and get in before it was too late. I can attest first hand about this panic. I lived in Orange County, California from 2001 to 2005, and believe me when I say the only word to describe it is “Hysteria.” You had Realtors feeding the frenzy with their talk of a real estate market that had no limits to how high it could go, and more than friendly mortgage brokers ready to hand you an exotic mortgage with exotic terms that on the surface appeared to be a God-Send, but was the devil in sheep’s clothing. These exotic mortgages such as the interest-only and negative amortization loans have been a huge disservice to folks who did not understand they were literally entering into a trap that eventually would engulf them in misery.

Now that the mess of the past five years is coming undone and many companies are being led to the slaughter such as New Century and Accredited Home Lenders this may be the perfect time to scour the sector for companies with strong operating histories and balance sheets that can weather the storms of this cyclical industry.

This brings us to Countrywide Financial. The company has been operating since 1959 and has weathered every housing downturn since that time. While history is no exact predictor of the future there appears to be the real possibility that Countrywide may be oversold and undervalued in respect to the strength the company possesses and its ability to emerge from this chaotic mess stronger with fewer competitors as the high flyers started over the past five years fade away into financial oblivion.

The company is defiantly exposed to sub-prime losses, however, its exposure should be limited as its entire loan portfolio is not sub-prime and mortgage originations represent just 47% of the 2006 pre-tax earnings. The company has and is currently diversifying its business in order to avoid earnings gyrations caused by the cyclical housing market.

The company’s five operating segments are: Mortgage Banking, 47% of pretax earnings in 2006 (59% of pretax earnings in 2005), Banking, 32% (25%), Capital Markets, 13% (11%), Insurance, 7% (4%) and Global Operations, 1% (1%). In 2007, the company will likely continue to focus on diversification in an attempt to leverage its core Mortgage Banking business and provide earnings that are less cyclical.

The Standard and Poors is expecting EPS growth of 10% over the next five years. This is obviously not spectacular, but if the company is currently undervalued it could present a real opportunity to achieve an above average return. S&P has also determined the fair value of the company is $35.50. Most companies trade well above this fair value calculation.

As of the close of the trading on Friday, March 23, 2007 the company was trading around 8.6 times earnings (TTM). Current year (fiscal 2007) earnings estimates are $4.22 a share, which currently puts the stock at 8.7 times earnings. Earnings estimates for fiscal year 2008 are projected at 4.87, which puts the stock at a 7.56 times 2008 earnings. The following are PE histories for Countrywide:

Average 10-Year High PE Ratio 12.1
Average 10-Year Low PE Ratio 7.0

Average 5-year High PE Ratio 9.2
Average 5-year Low PE Ratio 5.8

The company’s major competitors are trading at higher PE Ratios such as Bank of America (BAC) at 11.25 earnings, Washington Mutual (WM) at 11.60 and Wells Fargo (WFC) at 14.06. The industry is trading at 10.41 earnings. These are all for the trailing twelve months. These competitors are more diversified financial institutions and may explain why they are trading at higher PE ratios; however, it appears that Countrywide is trading at a discount to its strength and historical PE ratio. If the company were to trade at just 10-times 2008 projected earnings the stock would be priced at $48.70, which would represent a 32% return over the next 12 to 24 months, and that would not include the dividend yield of 1.60% at current share prices.

Now all this talk about the company trading at 10 times 2008 earnings is great, but it means relatively little if the company incurs more than expected loan losses due to its exposure to non-prime mortgage loans. A review of the Company’s most recent 10-k shows that non-prime loan production represented the following as part of total loan production:

2006 8.67% of total loan production or approx. $40.5 million
2005 8.94% of total loan production or approx. $44.6 million
2004 10.85% of total loan production or approx. $39.4 million
2003 4.56% of total loan production or approx. $19.8 million
2002 3.74% of total loan production or approx. $9.4 million


For the past five years total non-prime loans originated equals $153.7 million. The company is also servicing approx. $116.2 million in non-prime mortgage loans, which are currently 19% delinquent with 3.53% of these loans pending foreclosure. As of 12-31-06 the company had common shares outstanding of 585,466,719 with basic earnings per share of $4.42 and diluted of $4.30. So if all of these non-prime loans were to be written off it would only amount to approx. $.46 per share. It is obviously unlikely that all of these non-prime loans would go bad. Sandy Samuels, an executive officer of Countrywide, recently said to the Senate Banking Committee said foreclosure rates on their non-prime loans could reach or exceed 10%. He did emphasize that 90% of the company’s non-prime borrowers will not loose their home. So if we were to establish a range of 10% to 20% it means the EPS hit could be $.05 per share to $.10 per share.

The company also has non-prime exposure in its recourse securitizations. At December 31, 2006 this exposure amounted approx. $401.5 million. Credit losses in 2006 related to these securitizations amounted to $94.8 million.

The following positives with the unpaid principles balances were noted: (1) – 70% of the unpaid principle balances at 12-31-06 had FICO scores above 700 and (2) – 44% of the unpaid principle balances had original loan-to-value ratios (LTV) of 80% or less.


Click to Enlarge






The company has a lower PE and PEG ratio than its industry.

Related Links

Loan Losses May Be Worst

CFC Not Getting Proper Credit

_____________________________________________

Apollo Investment Corp AINV:NASDAQ

Apollo Investment Corp is similar to American Capital Strategies Ltd (ACAS) that was covered in a prior published post on this website. The Company was founded in 2004 and has a limited operating history. The Company operates much the same way as American Capital Strategies in the sense that they both invest in middle market companies and they fund this investment primarily through debt and stock offerings. Apollo is also a closed-end, non-diversified management investment company that has filed an election to be treated a business development company (BDC) under the Investment Act of 1940. This requires the company to pay out at least 90% of its taxable income in any given year to retain the favorable tax status associated with being a (BDC). As mentioned in an earlier post this is much like the hot to trot Real Estate Investment Trusts of the past 3 to 5 years.

Those investors seeking long-term appreciation with an above average dividend yield should consider both Apollo Investment and American Capital Strategies. At SmartTrades we favor American Capital Strategies over Apollo, however, Apollo has a very attractive dividend yield that for those seeking income should seriously consider.

Company Background

Apollo Investment Corporation (Apollo Investment) is a closed-end, non-diversified management investment company that has filed an election to be treated as a business development company (BDC) under the Investment Company Act of 1940 (the 1940 Act). The Company's investment objective is to generate both current income and capital appreciation through debt and equity investments. It intends to invest primarily in middle-market companies in the form of mezzanine and senior secured loans, as well as by making direct equity investments in such companies. During fiscal year ended March 31, 2006 (fiscal 2006), Apollo Investment invested $1.1 billion across 26 new and 10 existing portfolio companies. Investments sold or prepaid, during fiscal 2006, totaled $452.3 million.

Company Fundamentals

Click Image to Enlarge





Click Image to Enlarge











Standard and Poors is currently rating the stock as a "hold" with a 12-month price target of $23. At current prices this does not leave much room for capital appreciation. The company currently has a forward PE ratio of 11.40 and a PEG ratio of 1.05. This is similar to ACAS which has a forward PE Ratio of 11.40 and a PEG Ratio 1.44. For those seeking a high dividend return both companies have attractive dividend yields between 8% to 10%.


Disclosure
* - Currently do not own shares of Apollo
* - No other relationships with the company

Sentiment
HOLD

Related Links

Apollo Downgraded

Apollo Going to $21

Apollo Offering Growth and Income

Questions
What do participants in this forum think of Apollo? Bullish? Bearish?
Do you like American Capital Strategies more than Apollo?
Any other thoughts on Apollo that would be useful for participants of this forum?

Eagle Materials Inc EXP:NYSE

There has been several sectors and companies that have been literally beaten up by the continuous negative reports that are released regarding the present state of the housing market. These companies range from the sub-prime lenders such as New Century Financial to Home Depot. In the case of New Century it appears there is more than just bad news affecting this stock, but in the case of Home Depot it is primarily related to investor’s lack of confidence in the current housing market. Another embattled company that has very strong fundamentals and the potential for strong long-term PE growth is Eagle Materials, Inc. While a quick short-term profit appears unlikely; in the long-term this company’s fundamentals and history suggest it will prove to be a real long-term winner.


Company Background

Eagle Materials Inc. (EXP) is primarily a holding company. Through its subsidiaries, the Company is engaged in the manufacture of basic building materials, including gypsum wallboard, cement, gypsum and non-gypsum paperboard, and concrete and aggregates. It operates in four business segments: Gypsum Wallboard, Cement, Recycled Paperboard, and Concrete and Aggregates. These operations are conducted in the United States, and include the mining of gypsum, and the manufacture and sale of gypsum wallboard; the mining of limestone, and the manufacture, production, distribution and sale of Portland cement; the manufacture and sale of recycled paperboard to the gypsum wallboard industry and other paperboard converters, and the sale of readymix concrete, and the mining and sale of aggregates (crushed stone, sand and gravel). These products are used primarily in commercial and residential construction, public construction projects, and projects to build, expand and repair roads and highways.

Notes about the Company

The company is currently trading around an 11 PE Ratio based on current year estimates of earnings, while the industry average PE ratio is 18, and S&P 500 is 17.

This information would suggest the stock is artificially depressed; however, it is good to keep in mind that the any construction related stock may or may not be artificially depressed, however, Eagle Materials appears to have an above average financial strength, which when the market begins to revalue the company based on fundamentals the stock price should begin to appreciate. See company fundamentals below:

Click On Image to Enlarge





Click On Image to Enlarge



It can be seen from the above financial ratios that the company is outperforming its industry and the S&P 500 in most categories. This appears to be a very strong indicator that the company in the long-term will provide a very a good return on investment. Once the housing and mortgage woes have subsided the market will begin to search for the strong performers within this sector and it appears that Eagle Materials may have the characteristics the market will seek after.

The company also has a PEG ratio well below 1 at .38, and a current dividend yield of 1.60%.

Disclosures
* - Currently do not own EXP
* - No other relationship with EXP

For those participating in this forum; what are your thoughts on this company? Do you think it will prove to be a good long-term investment? Please share your comments. I am just in the beginning stages of researching this company, but it appears it may be a superb long-term investment (hold at least 24 months).

Current Sentiment = Buy

Related Links

http://eaglematerials.com/

http://finance.yahoo.com/q?s=exp

American Cap Strat Ltd ACAS:NASDAQ

American Capital is within the Misc. Finance Sector and manages a portfolio of middle market companies. American Capital Strategies, Ltd. is the largest business development company (“BDC”) and is the second largest U.S. publicly traded alternative asset manager. The company is regulated as a BDC under the Investment Company Act of 1941, which means the company is required to pay out 90% of its taxable income each year to retain this favorable tax status. This is much like a Real Estate Investment Trust (REIT), which is also required to pay out 90% of its taxable income. For an investor seeking a high yielding dividend stock with an above average capital appreciation outlook; this stock may be the perfect fit for your portfolio.


Company Background - CLICK ON IMAGES TO ENLARGE
American Capital Strategies, Ltd. (American Capital), incorporated in 1986, invests in and sponsors management and employee buyouts, invests in private equity-sponsored buyouts, provides capital directly to early stage and mature private and small public companies, invest in commercial mortgage-backed securities (CMBS) and collateralized debt obligation (CDO) securities, and invest in investment funds managed by the Company. American Capital provides senior debt, mezzanine debt and equity to fund growth, acquisitions and recapitalizations. The Company, through its asset management business, is also a manager of debt and equity investments in private companies. American Capital provides capital directly to private and small public companies for growth, acquisitions or recapitalizations.

The above 10 year history shows this stock is trading well below its 5 and 10 year high and low PE Ratio.

10-year PE Ratio - Average High = 22
10-year PE Ratio - Average Low = 13.5


5-year PE Ratio - Average High = 21.6
5-year PE Ratio - Average Low = 12


As of the close of trading on March 16, 2007 the company was trading at 6.70 (PE Ratio) times 2006 earnings, which were $6.55. Average earnings estimates for 2007 are $3.48, which means the stock is trading around 12 times earnings, which is the average low for the past 5 years. All of the company's major competitors are trading at higher PE ratios. Click on the image below.




The Standard & Poors 12-month price target is $57, which gives this stock an approximate PE Ratio of 16. Given this stock's 10 and 5-year PE history it becomes aparent why S&P has rated this stock as a *****5-Star*****.

As a hypothetical...if you buy into this stock at $44 and it climbs to $57 as projected that would be a 30% annual return plus your 8% dividend yield would come to a 38% 12-month return on your investment. If the stock stagnates and remains around $44 for the next 12 months you would still yield an 8% dividend return, which is higher than all of the online high yield savings accounts, which are currently around 5%.

Disclosures
* Bought Shares on March 19, 2007
* No other relationships with company

Current Sentiment
* Buy


Related Links

Yahoo Stock Quote - ACAS

American Capital Corporate Website

As a final note this site is designed to be a forum for discussion on potential equity investments. Commenting on this post is encouraged.