Low debt is a characteristic I love when picking stocks.
The low-debt stock list you are about to read is the 17th in a series, published pretty much every year in May. My picks in the first 16 low-debt lists have averaged a total return (including dividends) of 28.5% in 12 months, far ahead of the 9.7% average return on the Standard & Poor’s 500 Index for the same periods.
My low-debt choices have beaten the S&P 500 12 times out of 16, and been profitable 14 times.
Keep in mind that my column recommendations are theoretical and don’t reflect actual trades, trading costs or taxes. Their results shouldn’t be confused with the performance of portfolios I manage for clients. And past performance doesn’t predict future results.
But is low debt as a stock-picking tool losing its mojo? In recent years, low-debt stocks have not outperformed. Quite the contrary: High-debt stocks have thrived in a period of extraordinarily low interest rates.
My annual May list of low-debt stocks outperformed the market in only half of the past six years. In its first decade, it outperformed nine times out of ten.
Latest Year
Four of my five picks from a year ago showed gains, but a loss of nearly 50% in Cheetah Mobile Inc. (CMCM, Financial) clipped the overall gain to 5.1%. Meanwhile, the S&P 500 returned 12.3%.
Only two of my five selections beat the S&P: Foot Locker Inc. (FL, Financial) was up 40.0%, and Ituran Location and Control Ltd. (ITRN, Financial) returned 16.5%. CME Group Inc. (CME, Financial) and Kulicke & Soffa Inc. (KLIC, Financial) posted middling returns.
By no means have I given up on low-debt stocks. Low debt reduces the risk of bankruptcy, avoids the dead weight of interest payments, and confers strategic flexibility – the ability, for example, to acquired trouble competitors in tough times.
What’s more, it’s not obvious how long the current low-interest-rate regime will last. For now, the Federal Reserve has said it won’t raise rates, and will be “patient.” But patience doesn’t last forever.
The Trump administration is jawboning vigorously for low rates, but the Fed is independent – and likes to demonstrate that fact from time to time.
Here, then, are four new low-debt picks.
Skyworks
Boasting a whistle-clean balance sheet is Skyworks Solutions Inc. (SWKS, Financial), based in Woburn, Massachusetts. It makes semiconductor assemblies used for (among other things) 5G communications and connecting smart devices to the Internet.
Skyworks’ revenue, after growing for a decade at 17% a year, nearly screeched to a halt last year, rising only 2%. That’s why the stock sells for only 14 times earnings. But the company remains very profitable and has no debt whatever.
Cal-Maine
The largest U.S. egg producer, Cal-Maine Foods Inc. (CALM, Financial) has $3.1 million of debt and more than a hundred times that figure in cash. Debt is less than 1% of stockholders’ equity.
The egg business is highly cyclical – with its own peculiar cycles. While the demand for eggs tends to rise slowly and steadily, the supply varies. Avian flu comes and goes unpredictably, sometimes wreaking havoc on flocks.
Analysts expect the coming year to be tough, so if you buy this one, I suggest you edge in gradually.
Foot Locker
Back from last year’s list is Foot Locker Inc. (FL, Financial). Despite a big gain in the past 12 months, the athletic shoe and clothing retailer still sells for about 12 times recent earnings and less than 10 times estimated earnings for the coming year.
Foot Locker has $891 million in cash -- about seven times the size of its debt. Debt is less than 5% of stockholders’ equity.
In the past 15 years, Foot Locker has had only one loss, in the recession-pocked year of 2009. In four of the past five fiscal years, it has earned more than 20% on stockholders’ equity. This was accomplished in a time when brick-and-mortar stores are supposedly reeling.
Urban Outfitters
Totally debt free is Urban Outfitters Inc. (URBN, Financial), a retailer of clothing, mainly for people aged 18-28. It was on this list two years ago and scored a 66% gain from May 2017 to May 2018. But in the past nine months it has tumbled back to earth, falling from $44 to about $30.
The balance sheet is still terrific. Urban Outfitters has no debt and $637 million in cash. The rag trade is notoriously fickle, but Urban Outfitters has 25 straight years of profits, often handsome ones.
Disclosure: I own Ituran personally and for a few of my clients. One client holds shares of Kulicke & Soffa, and one holds Foot Locker.
John Dorfman is chairman of Dorfman Value Investments LLC in Newton Upper Falls, Massachusetts, and a syndicated columnist. His firm or clients may own or trade securities discussed in this column. He can be reached at [email protected].
