I wanted to find five cheap stocks that have huge price appreciation potential. For these stocks, the valuations are well below their peers.
Here, the market is failing to recognize the growth potential of these cheap stocks. In effect, they are value stocks that should be growth stocks. The patient investor — who can withstand temporary dips –will do quite well with these investments.
For example, the average price-earnings ratio of this group of cheap stocks is just 17 times earnings. But their peers have much higher P/E ratios. In addition, the same is true of their enterprise value-revenue valuations.
The potential upside of each of these stocks is 30% to 50%, as a minimum, based on my target price for each one.
Here are the names of this selective group of cheap stocks stocks:
- Microchip Technology (NASDAQ:MCHP)
- GoDaddy (NYSE:GDDY)
- OpenText (NASDAQ:OTEX)
- Cornerstone OnDemand (NASDAQ:CSOD)
- AudioEye (NASDAQ:AEYE)
Cheap Stocks: Microchip Technology (MCHP)
Market Value: $27.7 billion
Forward P/E Ratio: 19.2x
Projected Stock Price Upside: 54.9%
The first company on my list of cheap stocks is Microchip Technology. It is a large semiconductor product designer and manufacturer based in the U.S. The company makes advanced microcontrollers and microprocessors, as well as memory and flash DRAM products.
Its earnings have waned as a result of the novel coronavirus, which has lowered demand. However, now that global restrictions are being lifted, the company expects a significant pickup in orders worldwide.
Moreover, its move into selling products for data centers as well as curtailing manufacturing to line up with demand should increase profits.
Three of its peers have significantly higher valuations, despite similar industry conditions. Therefore, I suspect the company is worth significantly more than its present price.
For example, right now Microchip Technology trades with a forward price-earnings ratio of 20.1 times. This is well below its peers such as Analog Devices (NASDAQ:ADI), with its forward P/E ratio of 28.6 times. In addition, Maxim Integrated Products (NASDAQ:MXIM) has a forward ratio of 27.1 times, and On Semiconductor (NASDAQ:ON) has a 50.5 times ratio.
Using these peer ratios with Microchip Technology’s March 2021 expected earnings of $5.73 per share gives MCHP stock a target price of $170.43. This represents 54.9% upside for investors in the stock.
Market Value: $13.1 billion
Forward P/E Ratio: 17.2x
Projected Stock Price Upside: 218.4%
GoDaddy is a U.S. domain registrar and web hosting company. It is a very profitable company with over a 23% return on equity in 2019.
GoDaddy’s domain bookings and average revenue per user (ARPU) have been growing nicely over the past several years. Moreover, its free cash flow is very strong. Last year, it was over $635 million, and for the last 12 months to March 31, FCF rose to $685 million.
Based on the GDDY stock $13.1 billion market value, the FCF yield is very high at over 5%.
I like this stock for one simple reason. It is an arbitrage play on the valuations of some of its peers. For example, GDDY stock has a forward P/E of just 17.2 times expected earnings. But some of its peers have massively higher valuations.
The average of these three forward P/E ratios is 210.2 times. I decided to discount these by 75%. The target P/E in my valuation is roughly 54.6 times.
Even with that significantly lower P/E valuation, my target price for GDDY stock is $250. That implies potential upside of over 218% from its present price.
Market Value: $11.7 billion
Forward P/E Ratio: 14.1x
Projected Stock Price Upside: 57.8%
OpenText is a Canadian software company that specializes in enterprise information management (EIM) applications. The company recently acquired Carbonite, which performs online backup for personal computers.
The company is a serial acquirer of “bolt-on” companies in its space. Recently, it decided to institute a restructuring plan, which may reduce its operating profits in the short term.
Nevertheless, its free cash flow in the last 12 months was very respectable. The company generated $904.1 million in cash flow from operations and spent just $68.4 million.
That means it generated $835.7 million in FCF. Given its $11.7 billion market value, its FCF yield is very attractive at over 7%
Using the same peer valuation method I used in the other stocks above, the average P/E ratio for OTEX stock should be 44.5 times earnings. However, the stock trades for just 14 times its forward earnings.
Using a 50% discount factor, I set the price target at 22 times earnings. This means the stock is worth at least $68.06 per share. That represents a very respectable potential upside of 58% for OTEX stock.
Cornerstone OnDemand (CSOD)
Market Value: $2.7 billion
Forward P/E Ratio: 18.5x
Projected Stock Price Upside: 64.3%
Cornerstone OnDemand is a California-based talent management and experience software provider. It helps companies with their recruiting, employee learning and performance management functions. The company is extremely profitable.
For example, in the last 12 months ending March, it generated $114.2 million in CFFO. FCF in the last 12 months was $99.4 million. Moreover, some of the companies in this employment industry space are highly valued.
Based on the relative P/E valuations of some of its peers, the company should be trading at a forward P/E multiple of over 60 times. However, CSOD stock trades for just 18.5 times its forward expected earnings for the year ending December 2021.
I applied a 50% discount figure to that and derived a target price of $68.54 per share. This helps provide a margin of safety for the stock valuation. It also takes into account other factors. For example, this discount accounts for the fact that some of its higher-valued peers do not make money in employee software like Cornerstone.
Nevertheless, this price target represents a potential gain of over 64% for investors in CSOD stock.
AudioEye (AEYE)Market Value: $77.7 million
Forward P/E Ratio: 17.5x
Projected Stock Price Upside: 43.2%
AudioEye is a software company that provides web accessibility software for existing corporate internet sites. For example, it helps blind people hear a reading of each page they search. Its software allows for a larger print of words on a site so people will have a clearer vision of the contents. Some people are color blind, so AudioEye’s software helps make some functions clearer to them.
The company’s sales have been growing consistently over the past several years. Corporations allow AudioEye to modify software code on their sites, such that anyone who needs better accessibility can use it. Moreover, a number of legal cases requiring Americans with Disabilities Act compliance have propelled further sales.
I have been following the company for a while. Here is why I think the AEYE stock is now worth looking at. Recently management indicated in its March earnings press release that AudioEye will become cash flow positive in 2021.
Moreover, the company produces consistent and recurring revenues. In fact, AudioEye regularly gives guidance on its monthly recurring revenues (MRR). Even more importantly, AudioEye is at the inflection point where operating leverage provides huge profit growth. Marginal increases in revenue, after variable expenses, go straight to profits as its overhead is covered by existing cash flow.
Based on this, I estimate that earnings for the year ending 2021 will be at least 50 cents per share, if not higher.
That puts AEYE stock on a forward P/E of just 19 times. For a company with this type of fast-growing revenue and recurring earnings, I deem it is worth at least 25 times earnings for 2021. That gives the stock a target price of $12.50 and an upside of at least 43%.