Two Undervalued Stocks in the Infrastructure Arena

I am finally seeing some of those earnings blow-ups that I have been waiting for this season. A few stocks have moved from my wish list to my buy list, and I have been buying stock this morning. I am not worrying too much about Ebola or any of the other things that have been roiling the markets in the past few weeks. These stocks have tumbled as a result of poor short-term results and outlooks, and are now cheap enough to own. Oddly enough, neither of my two new buys has reported earnings yet, but revised forecasts and dividend cuts have sent the shares tumbling.

Layne Christensen (LAYN) has been on my wish list for a long time. The company provides drilling service to the water, mineral and energy industries. They also provide construction services for projects such as pipelines, tunnels, mine shafts and marine projects. Two of three industries they serve are seeing broad weakness right now, but the water resource division is growing nicely. The company released revised guidance this morning, and it was below Wall Street expectations, so we are seeing some pretty serious selling.

The water division is the part of this company that I think will be exciting going forward. The water shortage and drought conditions in parts of the U.S. are pretty well known, and these issues are just going to get worse, particularly in part of the Southwest. In the most recent earnings report, Layne Christensen said that pre-tax profits at the Water Resources division more than tripled year-over-year. New projects in California and other parts of the Western U.S. drove revenues and the backlog for the division rose by almost 50% in the quarter. The water division is about 25% of revenues, and that should grow going forward, as the need for fresh water becomes a greater concern.

The heavy civil construction division has the potential for strong results in the future as well. This segment has been hampered by older high-cost and unprofitable contracts, but those contracts are nearing completions. The infrastructure in the U.S. needs updating. Although this issue is a political football, and the spending has been delayed, the money will have to be spent at some point. Layne Christiansen should get a share of all the wastewater, pipeline and other water infrastructure projects in the years ahead.

The stock is now very cheap at less than 70% of tangible book value, and I am a buyer. Although the near term is bumpy, the future for this company and its stock price looks bright to me.

It took a little more courage to push the buy button on shares of Rhino Resources (RNO). The coal business is horrible, and it's going to be a while before conditions improve. The MLP has slashed its dividend payment, and those investors who owned the stock to collect he generous $.445 dividend each quarter have dumped the stock as the payout was reduced to just $.05 a share. I think the selling is overdone as a result of so-called income dumping, and the stock is worth an initial small position.

Rhino has nine mines in Kentucky, Ohio, West Virginia, and Utah, and it is feeling the pain of low coal demand and pricing. One of the reasons for cutting the dividends is to look for ways to diversify into other non-coal related businesses. When CEO Chris Walton announced the dividend cut this week, he said: "together, these actions are designed to preserve liquidity while retaining the flexibility to continue making non-coal investments, which we believe will enhance the long-term value of the Partnership."

The stock is trading at about 30% of stated book value right now, but I suspect it is not quite that cheap. We will probably see write-downs of the value of the mines in the future. If the company writes all assets down by half, the stock would be trading at about 60% of tangible book value. The balance sheet is in decent shape, as the company paid down a lot of debt after selling assets in the Utica Shale oil and gas fields.

I don't think coal is dead, and I think prices and values will eventually recover to some extent. The long-term upside in Rhino is huge. It reports earnings next week, so stay very small and plan on adding on future weakness.

Keep in mind that I fully expect both of these stocks to fall further before reversing and giving me a chance to buy on a scale. I also have no intention of selling, until they reach what I consider fair value, no matter how long it takes. I expect to still own both of these five years from now. The tumble in the price of these two stocks gives like-minded investors with a good entry point.

At the time of publication, Melvin is long LAYN and RNO.