Are These 2 Tiny Cheap Value Stocks Too Good To Be True?

Investing in stocks when they carry low valuations help stack the odds of success in our favour as compared to buying them when they’re expensively valued.

But, it’s worth noting that not every cheap share ends up a bargain – the ones with a crumbling business can still be an expensive mistake despite having a low valuation.

It’s for this reason that investors will also have to consider other factors, such as the strength of a cheap share’s balance sheet and the quality of its business.

With these in mind, what should investors make of Kingsmen Creatives Ltd (SGX: 5MZ) and Hour Glass Ltd (SGX: AGS)?

Both companies can be considered to be tiny cheap value stocks at the moment. At Kingsmen’s current share price of S$0.985, it has a market capitalisation of just S$197 million and is valued at a trailing price-to-earnings (PE) ratio of 11.3; meanwhile, Hour Glass has a PE of 10.3 and a market cap of S$603 million at its present share price of S$0.85.

For perspective, the SPDR STI ETF (SGX: ES3) – an exchange traded fund tracking the fundamentals of Singapore’s market barometer the Straits Times Index (SGX: ^STI) – has a PE ratio of 13.4 now.

Fortress-like financials

Having a strong balance sheet gives a company resources to grow even during times of distress and also reduces the financial risks that the firm may face – these are advantages that both Kingsmen and Hour Glass enjoy.

As of 31 March 2015, Kingsmen had S$75 million in cash and just S$12 million in borrowings; meanwhile, the selfsame figures for Hour Glass stand at S$101 million and S$61 million respectively.

Quality businesses

Kingsmen’s in the MICE (meetings, incentives, conventions, and exhibitions) industry and it earns its keep by helping to design and put in place various types of installations for disparate venues and events such as museums, theme parks, trade shows, and retail stores.

Some of the company’s clients include upscale retail brands like The Hour Glass (yes, the two companies I’m discussing here have a corporate relationship), Chanel, and Karl Lagerfeld, as well as theme parks like the well-known Universal Studios Singapore. Kingsmen was also involved with the recent 2015 Southeast Asian Games as a sponsor and had helped out with the event’s planning.

With more than 70% of Kingsmen’s clients returning to it for its services, it wouldn’t be unfair to say that the company has developed a solid reputation for itself in its line of service.

Kingsmen's returns on equity (ROE), total cash, and total debt

Source: S&P Capital IQ

For billionaire investor Warren Buffett, one hallmark of a quality business would be the ability to generate a healthy return on equity while utilising reasonable amounts of debt. As you can see in the chart above, this is something which Kingsmen has excelled in; the firm has generated solid returns on equity of at least 18.7% over the past five years while having a clean balance sheet that has carried minimal borrowings.

Meanwhile, Hour Glass retails luxury watches in both its namesake as well as brand-specific boutiques. The management team at the company, led by chief executive Henry Tay, seems to have a keen eye on shifting trends within the retail industry in addition to having a long-term view of how the company’s business should evolve and improve.

Hour Glass's returns on equity (ROE), total cash, and total debt

Source: S&P Capital IQ

From the fiscal years ended 31 March 2010 to 31 March 2015, Hour Glass has also generated very healthy returns on equity of at least 15% while carrying a strong balance sheet that has had more cash than debt. You can see these in the chart above.

A Fool’s take

With all that we’ve seen about Kingsmen and Hour Glass so far, there are a number of things to like about them: Not only do they have valuations that are lower than the market average, they also have very strong balance sheets as well as the ability to generate healthy returns on equity.

While a deeper look is needed before any investing decision can be reached, the traits we’ve seen would easily make Kingsmen and Hour Glass worthy candidates for further research for bargain hunters.

If you like what you've seen and want more analyses, insights, and important updates about Singapore's stock market, sign up for The Motley Fool Singapore's free weekly investing newsletter, Take Stock Singapore. Written by David Kuo, it can help you grow your wealth in the years ahead.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing owns shares in Kingsmen Creatives.