In today's market, it's a bit of a surprise when you stumble across a cheap dividend stock. Not only has the market been at or near all-time highs as of late, but investors starved for yield certainly aren't finding it in bonds since interest rates have hovered at very low rates for some time. Based on this, dividend-paying stocks should be selling for a bit of a premium, but that isn't necessarily the case. Three stocks in particular -- Delta Air Lines (NYSE: DAL), General Motors (NYSE: GM), and HP Inc (NYSE: HPQ) -- have some surprisingly low stock valuations today.
Do those low valuations actually translate to cheap stocks that could be worth considering for your portfolio? Let's take a look at why these companies are selling for such low prices and whether they are buys today.
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Perhaps not as cheap as it looks
The past year and a half have been a boom for airline stocks. Cheaper jet fuel and modest capacity increases rather than the typical boom-and-bust cycles of airlines has led to double-digit returns for some time and growing free cash flow. No better company displays this than Delta Airlines. Over the past 12 months, the company has generated $4.1 billion in free cash flow that management has used to pay down some debt and buy back gobs of stock. Even after this impressive streak of results, the company's stock still carries a rather modest total enterprise value to EBITDA ratio of 4.7 times, and its dividend yield of 1.4% is the best among the major airlines.
Before getting too excited about these results, remember that this is a cyclical industry, and we may very well be at the top of the cycle for these companies. There are a few headwinds that Delta and the other major American carriers are set to face in the coming quarters such as rising jet fuel prices, ticket pricing pressure from smaller regional competitors, increasing labor costs, and the strong U.S. dollar giving its international competitors a little leg up on price for long-haul flights.
Perhaps Delta will be able to offset some of these headwinds, but the cyclical nature of the business suggests we may be at the top of the cycle. When a cyclical business looks cheap on earnings-based multiples, there's a good chance it may be headed for a dive.
It could be cheap if the automotive market cooperates
Like shares of Delta, General Motors is looking more and more like it has hit the top of the automotive industry cycle; shares of GM stock look incredibly cheap at a total enterprise value-to-EBITDA ratio of 5.23 times. 2015 was a banner year for automotive sales, so investors in general shouldn't expect those kinds of results to continue in perpetuity. Even though many industry executives are saying they anticipate a plateau in demand, General Motors' sales in the U.S. seem to suggest otherwise.
Year to date, total U.S. sales are now down 3.6% -- the largest decline among the five largest automotive makers: GM, Ford, Fiat Chrysler, Toyota, and Honda. Even more to the point is that GM's high-margin light truck sales were the only ones to decline year to date, while the other four automakers all saw upticks in light truck sales. Perhaps, though, this is just a minor issue since the company's most recent earnings show that it was able to overcome these issues thanks to better margins on its SUV and truck sales and improving sales in China.
General Motors stock looks cheap, but it's only cheap if ones assumes sales have either plateaued or are one a very modest decline. If that is the case, then GM should have some levers to pull that will help it maintain strong margins as well as continue its strong share repurchase program and generous dividend. If automotive sales are indeed headed for a sharper decline, though, then perhaps that cheap stock valuation is a harbinger of a decline, much like Delta's.
Cheap...if it can pivot
There aren't a whole lot of investors out there giving shares of HP Inc. much love. Today, the company's stock trades at a bargain-basement valuation of just 3.02 times EBITDA. At that rate, Wall Street is assuming that HP's earnings are headed for a rapid decline. The company has so far been able to fight off the industry trend of declining PC sales by focusing on higher-margin products like gaming devices. It has also helped its cause by cutting its workforce and drastically reducing its overhead expenses. With the PC market declining more than 12% in a year, though, there are questions regarding how long it can continue to fend off the larger industry trends.
HP's other side of the business -- printers -- hasn't exactly been going gangbusters, either. It recently paid $1 billion to acquire Samsung's printer business and increase its market share, but again, the wider trend of declining printer demand will be harder and harder to overcome.
The one thing that could change all of this is the company's offerings in the 3D printing space. While it isn't much of a contributor to the bottom line today, the 3D printing market is expected to be a $20 billion a year market by 2020. If the company can continue to use its base businesses of PCs and regular printing to generate plenty of free cash flow to keep investors happy while incubating its 3D printing offerings -- a luxury few 3D printing competitors have -- then HP's stock today could be a rather cheap addition to a portfolio. Just keep in mind that, for the long term, its 3D printing business needs to take off, which isn't necessarily a given today.
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