Joel Greenblatt, founder of Gotham Capital, is a value investor with a focus on special situations. Not only is Greenblatt the managing partner of Gotham, but he is also the inventor of the quantitative investment strategy, Magic Formula Investing, and author of The Little Book that Beats the Market.
Greenblatt’s true philosophy is finding cheap, good companies and looking for deep value with a catalyst. Outlined below are five stocks that Greenblatt was buying up during the first quarter–let’s check out some of his most interesting stock picks (check out Greenblatt’s high yielders).
Greenblatt’s largest addition to his portfolio and now his fund’s top stock pick is Warner Chilcott Plc (NASDAQ:WCRX). This company is a leading specialty drugmaker that focuses on women’s health care and dermatological pharmaceuticals.
Warner’s 2009 acquisition of The Procter & Gamble Company (NYSE:PG)‘s global branded-prescription pharmaceutical business greatly broadened Warner’s product portfolio. The acquisition allowed Warner to enter the gastroenterology market with Asacol and the urology market with Enablex. In other areas, Warner’s birth control drug, Lo Loestrin FE, was launched in early 2011 and sales of the drug doubled to $42 million in 4Q 2012.
However, Warner Chilcott Plc (NASDAQ:WCRX) appears to be a merger-arbitrage play for Greenblatt, where Actavis has agreed to acquire Warner in an all-stock transition; Actavis plans to offer 0.16 shares per Warner share. Based on current prices and if the deal goes through, there is still 3.3% upside for Warner Chilcott Plc (NASDAQ:WCRX) investors.
Game time
In second is the video-game retailer GameStop Corp. (NYSE:GME). The video-game retailer was down nearly 20% last week on worries that its used-game segment might be in trouble, after the announcement that Microsoft Corporation (NASDAQ:MSFT) might limit the ability for packaged video games to be used on multiple systems.
Analysts expect revenue to be down some 7% in fiscal 2013, but only flat in 2014. However, what should help lift GameStop Corp. (NYSE:GME) and some of the other major video game retailers is the introduction of new hardware offerings, such as the Xbox One, in 2013. As well, longer term, the company should perform nicely with its transition to new revenue streams that includes digital content and used mobile devices.
GameStop Corp. (NYSE:GME) also pays investors a 3.1% dividend yield. Based on its current valuation, with a forward P/E of 9.6 and a solid long-term expected EPS growth rate, the game retailer’s PEG ratio comes in low at only 1.1.
A bad buy
An interesting addition to Greenblatt’s portfolio includes Seagate Technology PLC (NASDAQ:STX), now his sixth-largest holding. This company designs and manufactures hard disk drives for consumer and enterprise computing.
Seagate’s core business has been in decline as the demand for disk drives is hurt by the emergence of tablet computers, which use solid-state drives. Seagate posted March-ended quarterly EPS of $1.26 compared to $2.52 for the same period last year. This came as sales fell 4% sequentially.
I think this weakness could continue over the interim and so do analysts. Consensus estimates show that Seagate is expected to see EPS fall at an annualized 4% over the next five years versus the 38% annualized growth over the last five years.
What’s more is that famed short seller Jim Chanos touted Seagate as a prime short idea at this year’s Ira Sohn conference. Yet, Seagate has been one of billionaire David Einhorn’s top picks for a number of quarters (check out EInhorn’s small cap picks).
Defense & tobacco
Northrop is the world’s third-largest producer of military arms and equipment, with about 90% of its revenue from defense. Revenue is expected to decline by 5% in 2013 due to the the U.S. defense budget difficulties. The company does pay investors a 3% dividend yield, which helps with downside protection. Aerospace systems is its biggest segment (37% of revenue), which includes one of the most popular pieces of defense equipment, the F-35.
For fiscal 2014, funding for the F-35 was reaffirmed in the government’s budget, and funding for Northrop’s E-2D Advanced Hawkeye by 25%, while 21 EA-18G Growlers funding got a proposal for double the financing from 2013.
Northrop is also traded the cheapest of the major defense contractors at only 10.3 times earnings compare this to Lockheed Martin Corporation (NYSE:LMT)‘s 11.9 times and Raytheon Company (NYSE:RTN)‘s 11.2 times. The company also has approximately $3.2 billion in cash versus $3.9 billion in debt.
Going into the second quarter, there were a total of 28 hedge funds long the stock, a 22% increase from the first quarter. First Eagle Investment Management, managed by Jean-Marie Eveillard, has the largest position, worth $425 million (check out First Eagle’s portfolio).
Smoking
The other new addition to Gotham’s portfolio was Lorillard, the U.S.’ third-largest tobacco company. First-quarter EPS came in at $0.66, compared to the prior-year quarter’s $0.58 as Lorillard continues to snatch up market share thanks to its leading brand, Newport. Sales growth has also been solid, and is expected to be up another 4% in 2013 after a 4% rise in 2012.
Lorillard pays an impressive 5.2% dividend yield. The big driver for the company over the interim should be discount brand volume growth. Lorillard also appears to be one of the cheapest tobacco companies around. Lorillard trades at 13.5 times earnings, with other major tobacco companies stacking up as follows: Reynolds American, Inc. (NYSE:RAI) 17.8 times, Altria Group Inc (NYSE:MO) 16.5 times and Philip Morris International Inc. (NYSE:PM) at 18.7 times.
Bottom line
The value investor Joel Greenblatt loves defense and cigarettes, and I tend to agree. The dividend yields for both Northrop and Lorillard are a big positive and the worry from defense budget cuts seem to be overblown. Meanwhile, I would hold off on investing in Seagate given the decline in hard disk drives and rise of tablets. Also, the M&A play in Warner Chilcott Plc (NASDAQ:WCRX) is likely not for every investor, but GameStop Corp. (NYSE:GME)’s recent big sell-off could be a buying opportunity.
Marshall Hargrave has no position in any stocks mentioned. The Motley Fool owns shares of Northrop Grumman.
The article Gotham Asset’s Interesting Moves originally appeared on Fool.com.
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