2 Special Situation Buys

07/13/2011 12:30 pm EST

Focus: STOCKS

Marc Gerstein

Editor, Forbes Low-Priced Stock Report

Sometimes stocks sell off for justifiable reasons…but sometimes, if you look hard enough, you can find some real deals, notes Marc Gerstein of the Forbes Low-Priced Stock Report.

It hurts to experience the price declines we’ve been seeing lately.

Our reduced brokerage-account balances look the same whether the declines are caused by motivated sellers or a shortage of buyers.

And I don’t ever want to be perceived as cavalier regarding losses, which I also experience, and hate, with my stocks (I get furious when I see commentators whoop joyfully saying price declines provide opportunities to invest more at bargain prices).

But my willingness to tolerate such occurrences is definitely helped, not just by my short ETF hedge, but also by fundamental analysis that justifies favorable views of the companies, and particularly when supported by indications that sellers are not unusually motivated.

It would be nice to think good products or services are enough for business success. Actually, though, if a company can’t distribute well, it’s not going anywhere. Dynatronics (DYNT) has been getting that message.

The company makes its living producing and distributing physical-therapy products. These include general soft goods and supplies such as limb braces, whirlpool baths, exercise equipment, special benches, exercise balls, straps, weights, etc.

The company also offers electronic devices used for therapies involving ultrasound, infrared light oscillation, vibration, etc. Finally, there’s a smaller business in what DYNT refers to as aesthetic massage products, which, essentially, involve improving the appearance of skin.

DYNT shares rallied briskly as news of its penetration of large group purchasing organizations came out. But the stock corrected sharply, as investors realized it would take time for new business to materialize—not to mention, of course, the general stock-market weakness.

So presently, DYNT shares are not really priced for the growth the company now seems able to achieve. The price-to-sales ratio stands at 0.52, versus a 2.56 industry median.

Unlike many companies in this newsletter, Rite Aid (RAD) is quite large (annual sales of about $25 billion) and well known: It’s the third largest US drugstore chain.

So we can draw some immediate conclusions from the fact that its stock qualifies as “low-priced.” This is a busted issue, and deservedly so.

Its problems are longstanding:

  • a lot of acquisitions (mainly drugstore chains, most recently Eckerd in 2007);
  • financed with a lot of debt raising;
  • leading, it would seem, to inadequate tender-loving-care for basic day-to-day operations;
  • which is especially unfortunate considering increased competition from big-box discount stores, grocery chains, and mail order prescription—not to mention the top two chains, Walgreens and CVS
  • and don’t forget industry-wide challenges, such as fewer blockbuster drugs, and more people who are uninsured or underinsured, leading to increased tendencies to try to minimize prescription-drug spending.

The case for considering RAD now is a combination of special situation (indications that this decade-long laggard is finally starting to get it right) and extreme value (price-to-sales and price-to-free cash flow ratios of 0.04 and 4.38, versus industry medians of 0.46 and 13.76, respectively).

As to RAD’s position within the industry, we should not harbor any illusions. It has a steep mountain to climb, and the process will probably take years.

Our low-priced stock investment case is based not on final outcome, but visible progress. However, prospects for both seem credible.

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