Digging for stocks that are cheap on cash flow

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Capitulation is not just an investor phenomenon – it also applies to analysts. History has shown that one of the best times to buy stocks is when analysts give up and reduce their profit expectations – the stocks tend to fall to more attractive valuation levels in the aftermath.

With this post we look at the change in analysts cash flow estimates over the past two years, in search of companies trading at deep price to cash flow discounts to April 2011. We found a couple of notable surprises: Agrium, Atlantic Power and Trinidad Drilling.

The chart shows the price to forward cash flow estimates for all companies where the current multiple is lower than 2011. There are a surprisingly low number of these. The decline in cash flow – the numerator – is keeping most stocks at more expensive levels. (Reminder: Cash flow analysis does not apply to financials so they are not part of the screen).

The large number of precious metals and small cap energy companies is not a surprise. Rightly or wrongly, these sectors are being re-rated for slower appreciation in the face of commodity price and potential production cuts.

I didn't expect Agrium and Atlantic Power to be in the group. Certainly, both companies are dealing with issues, but cash flow is a pretty unforgiving benchmark because it largely discards creative accounting that's used to boost net income.

Generally speaking, analysts are positive on Agrium's outlook and suspicious about Atlantic Power. In the first case, 20 of the 30 analysts covering AGU rate it a Buy and the average target price of $115.71 is well above Monday's close of $91.01. None of the eight analysts covering ATP have a Buy rating but the average target price of $6.02 is above the current $4.68 stock price.

Scott Barlow is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here to read more of his Insights, and follow Scott on Twitter at @SBarlow_ROB.