With the stock market posting its best week in a month, it's remarkable to see a Dow stock trading at a forward price-to-earnings ratio of less than 10, but eight of 30 are beneath that level. They're not only undervalued on a historical basis, but also based on 2011 earnings expectations. With last week's rally suggesting the recovery is picking up, investors ought to consider these blue-chip stocks. They are ordered from cheap to cheapest.
8. Merck & Co. Inc. sells pharmaceuticals including Nasonex, Pepcid and Crixivan.
Quarter: Merck's third-quarter net income tumbled 90 per cent to $342-million and earnings per share fell 93 per cent to 11 cents, hurt by a higher share count. However, excluding one-time items, earnings decreased a modest 6 per cent to 85 cents. Revenue surged 94 per cent. The gross margin rose from 83 per cent to 91 per cent, but the operating margin stagnated at 30 per cent. Merck held $11-billion of cash and $18-billion of debt at quarter's end, equal to a quick ratio of 1 and a debt-to-equity ratio of 0.3.
Valuation: Merck's stock sells for a forward earnings multiple of 9.2, a book value multiple of 1.9 and a sales multiple of 2.5, 21 per cent, 60 per cent and 22 per cent discounts to pharmaceutical industry averages. Its cash flow multiple of 12 is on par with its pharma peer average. Merck commands a trailing earnings multiple of 13, compared to a five-year average earnings multiple of 15. The stock has underperformed the Dow in 2010, falling 3.9 per cent as the broader index rose 9 per cent.
Dividend: Merck pays a quarterly dividend of 38 cents, equaling a yield of 4.3 per cent with a payout ratio of 54 per cent. It has paid a 38 cent dividend since 2004. Prior to 2004, Merck had a record of distribution increases.
7. JPMorgan Chase & Co. is a diversified financial company whose commercial bank serves 26,000 clients. It also has an investment banking unit.
Quarter: JPMorgan's third-quarter net income increased 23 per cent to $4.4-billion and earnings per share climbed 26 per cent to $1.01. Revenue dropped 11 per cent to $27-billion. The gross margin widened from 61 per cent to 77 per cent and the operating margin extended from 31 per cent to 44 per cent. JPMorgan held $290-billion of cash and equivalents at the end of the quarter and $660-billion of debt, converting to a debt-to-equity ratio of 3.8. It had a tier-one capital ratio of 9.5 per cent at quarter's end.
Valuation: JPMorgan's stock trades at a forward earnings multiple of 8.1 and a sales multiple of 1.3, 27 per cent and 24 per cent discounts to financial services industry averages. Its book value multiple, though ostensibly cheap at 0.9, is on par with the peer average. And its cash flow multiple of 29 reflects a 50 per cent premium. JPMorgan is selling for a trailing earnings multiple of 11, a 27 per cent peer discount and a 53 per cent discount to its five-year average multiple of nearly 23.
Dividend: JPMorgan pays a paltry quarterly dividend of five cents, translating to a 0.5 per cent annual yield with a 6 per cent payout ratio. It has paid a five cent dividend since 2009. Previously, it paid a distribution of up to 38 cents.
6. Travelers Co. is a diversified insurer.
Quarter: Third-quarter net income ascended 7.5 per cent to $1-billion. Earnings per share advanced 28 per cent to $2.11. Revenue inched up 2.4 per cent to $6.5-billion. The gross margin expanded from 35 per cent to 36 per cent and the operating margin stretched from 21 per cent to 23 per cent. Travelers carries $5.3-billion of cash and equivalents and $6.3-billion of debt, equal to a debt-to-equity ratio of 0.3. Its subsidiaries receive top financial strength ratings, with grades of AA- from Standard & Poor's.