3 best stocks you can buy on sale

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These three companies have a few things in common. First, they have strong balance sheets and, according to Wall Street analysts’ forecasts, are expected to generate plenty of free cash flow in the years to come. Plus, their valuations make them attractive stocks to buy. Here’s why the aviation services company AAR Corp. (NYSE: AIR), industrial giant 3M (NYSE: MMM) and yachting company Brunswick (NYSE: BC) are good values ​​right now.

Image source: Getty Images.

Attractive valuations of free cash flow

Free Cash Flow (FCF) measures the amount of money a business generates and management can use to do things that improve investor value. It is calculated after deducting working capital requirements and capital expenditures from net income. Companies can use the FCF to pay off debts (thereby reducing future interest payments), pay dividends, buy back shares or even finance acquisitions. In theory, at least, a company could use all of its FCFs to pay dividends. However, in reality, most investors would like management to invest in earnings growth as well.

For illustrative purposes, here are the estimated FCFs for these companies over the next three years, and how they rank against their market capitalizations.

Company

Estimated FCF cumulative over 3 years

Percentage of current market capitalization

Brunswick

$ 1.365 billion

18%

AAR Corp.

$ 309 million

24.1%

3M

$ 18.587 billion

15.8%

Data source: marketscreener.com.

As you can see, all three come at an attractive price. That said, the market knows that these stocks are relatively cheap and there are reasons why they are discounted. However, I think in each of these cases the market is wrong.

Brunswick

The water sports business was one of the big winners from the pandemic. Social isolation measures taken to stem the spread of COVID-19 have rekindled (or in some cases rekindled) an interest in boating among many people.

While this has boosted sales of boats, marine propulsion systems and spare parts in Brunswick, the market appears to be concerned that the sales surge will hold up as the pandemic abates in the United States.

So far, however, these fears seem unfounded. For example, according to the National Marine Manufacturers Association (NMMA), new powerboat sales increased 32% year-over-year year-on-year through April. In fact, the real problem that manufacturers face is that they are struggling to keep up with demand.

Two people on a boat.

Image source: Getty Images.

In addition, Brunswick makes a lot more money with its propulsion and parts and accessories segments than with boats. For example, in 2020 the propulsion segment generated $ 286 million in operating profits, and parts and accessories earned $ 275 million compared to just $ 70 million for boats. This is important because outboard motors (propulsion) and parts and accessories tend to generate more recurring revenue over the life of a boat.

As such, Brunswick can continue to generate long-term revenue growth from the installed base of boats sold through 2021.

AAR Corp.

The pandemic has been difficult for this aviation services company as the commercial air travel crisis has hit it hard. Even though AAR has substantial government and defense activity, which accounted for 49% of its revenue in the third quarter of fiscal 2021 (which ended February 28), this was not enough to offset the drop in its business activities.

The market remains concerned about the outlook for commercial aviation. however, the proof suggests that passengers come back. While flight departures are still significantly below 2019 levels (down nearly 29% in the last weekly count), they are up 46% from the same period last year. Meanwhile, AAR CEO John Holmes has been busy getting rid of the company’s non-core assets, such as its composites manufacturing business, to focus on growth.

Planes in the sky.

Image source: Getty Images.

In addition, AAR has signed contracts to expand its aviation services business. For example, AAR has expanded its relationship with United Airlines, entering into a multi-year agreement to maintain the airline’s fleet of narrow-body aircraft. All in all, commercial aviation is making a comeback and AAR is well positioned to take advantage of the industry’s recovery.

3M

The multi-sector industry seems to be good value on an FCF basis. If management’s efforts to turn around 3M’s operational performance by restructuring its healthcare business, reducing costs, and changing the way the conglomerate is run pays off, then there is significant upside potential. CEO Mike Roman certainly has the financial firepower at his disposal to achieve these goals.

However, one of the reasons investors might fear buying this valuable stock stems from the potential liabilities of the company related to its manufacture of perfluoroalkyl and polyfluoroalkyl substances (PFAS).

While there are numerous lawsuits related to environmental contamination with PFAS, it is far from clear what it will cost 3M, if any. The market, however, appears to be assuming a drastic scenario. For example, Illinois Tool Works is probably its closest par, and the two were trading on similar multiples.

MMM price chart to free cash flow
Data by YCharts.

Based on Wall Street estimates, Illinois Tool Works is trading at 26.6 times the 2021 FCF estimate. Applying this multiple to 3M’s estimated FCF of $ 5.7 billion yields a target market cap of $ 152 billion for 3M. That’s almost $ 35 billion above 3M’s current market cap. This sounds like a discount too large to reflect the potential liability of the company for PFAS. As such, 3M seems like a good value investment proposition.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.


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