6 Stocks That Look Like Takeover Targets

Prices are sharply lower, but willing, well-financed buyers are few.

Right now such a statement could easily describe the market for houses, cars, art, computers -- even paid sex. But I’m referring to the biggest-ticket purchases of them all: entire companies. Last week, just $904 million worth of mergers and buyouts were announced. That’s the driest week for deals since 1993.

For the year, the dollar amount of deals is up more than 40% from a year ago, but only because of Pfizer’s (PFE) colossal $67 billion purchase of Wyeth (WYE), announced Jan. 26. The number of deals has shrunk by more than half. A dearth of credit seems the likeliest cause. One clue: The spreads between announced takeover prices and trading prices seem unusually wide, suggesting investors doubt many deals will close. Even a seeming sure thing like Pfizer/Wyeth, backed by $40 billion in combined cash reserves, carries a 9% spread.

Deals or no, it’s a fine time for individual stock investors to think like takeover specialists. Doing so involves basic bargain hunting, but with greater consideration of companies’ debt, cash and hidden earnings potential. Companies that make good takeover candidates also make good stocks, and just might lure a buyer when deal financing becomes more available.

The companies listed below have low EV/Ebitda ratios. EV is enterprise value, or the cost to own a company free and clear. That means buying all of its shares and paying off its debt while applying any available cash to the purchase. Ebitda stands for earnings before interest, taxes, depreciation and amortization. It’s a measure of underlying profit potential that ignores certain charges related to past transactions, as well as tax and interest rates, which often change after a takeover. Put it together and the companies below have low takeover prices relative to their underlying profit potential. They also generate free cash, which suitors like to see. And since these companies might not be bought soon or ever, I’ve made sure they reward stockholders with decent dividends.

If J.C. Penney (JCP) strikes you as too big to be bought, you haven’t looked at its stock market value lately. Shares have lost 82% in two years. You can now own the company free and clear for $5.4 billion. That’s less than half the price of Kohl’s (KSS), even though Penney’s estimated sales of more than $17 billion over the next year will top Kohl’s by nearly $1 billion. It’s far too early for stock buyers (or suitors) to nibble, though. Sales at longstanding stores are in serious decline. In January they dropped more than 16%. And while Penney isn’t worrisomely indebted, it is worrisomely obligated to its retirees. Last year, assets in the company’s pension plan fell in value by $1.6 billion, or more than $7 a share. Analysts reckon making up that loss will sap earnings per share through 2016. Expect more details Friday when the company reports full results for its fiscal year ended Feb. 2 before the market opens.

With Valentine’s Day two days away, Tiffany & Co. (TIF) can sell you a diamond drop pendant for $3.5 million. If you can afford 1,000 of them, though, you’ve more than enough to buy the whole chain for $2.5 billion and pay off its net debt of around $800 million. Tiffany is anything but immune to the current spending slowdown. Its operating margin of 14% is its lowest since the mid-1990s, and a stronger dollar has cleared some of last year’s flood of European tourists out of New York City, where Tiffany does 10% of its sales. Sales over the next year are expected to fall 7%. The stock has lost half its value in a year. But the company is still more than twice as profitable as the average clothing seller, it stands to gain market share during the downturn from financially shaky competitors and with just over 200 stores worldwide, it has plenty of room to expand once conditions improve.

NutriSystem’s (NTRI) diet plan could easily be mistaken for a cost-cutting plan for reformed restaurant frequenters. Delivered food costs just over $10 a day, plus the price of produce and dairy. Still, sales for the company dropped an estimated 11% last year; management reports final numbers next week. The company has plans to juice sales. Costco (COST) will sell its members discounted meal plans through its stores, and NutriSystem recently launched a premium line of frozen food. (Until now meals have been “shelf-stable,” meaning, eerily enough, that they don’t require refrigeration.) Shares go for less than eight times earnings and the entire debt-free company, net of its cash, sells for $350 million — about 11% of Weight Watchers (WTW) takeover price.

Have a look if you like at some other low-EV/Ebitda names below.