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S&P 500 profits are back to pre-crisis levels, but valuations are still low. Does this signal a buying opportunity?

Large American companies are beginning to look healthy again, although this has not been reflected in their stocks’ share prices. The S&P 500 companies are set to increase net income by 19% (13% up in the second quarter), according to Rita Nazareth and Lu Wang of Bloomberg. This is in step with the 6.9% average net income increases that S&P 500 companies have posted over the past 51 years.

Despite these profit improvements, S&P 500 shares appear undervalued by their price-earnings (P/E) ratios, indicating that investors have yet to snap up these well-performing stocks.

The overall S&P 500 index is trading at a P/E of 13.5 (based on projected earnings), which is almost 8% lower than the ratio's 5-year average.

Investors may still be hesitant about investing in stocks given the wobbly global economy. The Euro crisis has yet to be resolved, the debt ceiling is still a pressing issue in the US, China is making a concerted effort to slow down its rapidly expanding economy, employment data has been weak in the US, and the Federal Reserve has ended its bond-buying stimulus program (QE2).

“The fact that valuations have not returned to normal is simply that people are prejudiced against stocks… Earnings growth has been spectacular. People who are buying stocks today are buying an undervalued asset,” David Kelly, of JPMorgan told Bloomberg.

By contrast, Brian Jacobsen of Wells Fargo sees things in a slightly different light.

“Valuations are still at a discount because investors don’t just pay for the next quarter’s earnings…They pay for the whole trajectory of earnings going into the future. Though you can be optimistic about what will be reported for the quarter that just ended, it’s hard to get too excited about growth going forward,” Jacobsen told Bloomberg.

To help you with your own research, we compiled a list of S&P 500 companies undervalued by their P/E-Growth (PEG) ratios (PEG less than 1) that institutional investors have been buying up during the current quarter.

Hedge funds love these undervalued stocks--do you agree? Use this list as a starting point for your own research.

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List sorted by net shares bought by institutional investors as a percentage of the share float.

1. BlackRock, Inc. (BLK): Asset Management industry with a market cap of $35.84B. It has a PEG ratio of 0.89. In the current quarter, institutional investors have bought 31.3M shares (net), which represents 26.53% of the 117.97M share float.

2. First Solar, Inc. (FSLR): Semiconductor - Specialized industry with a market cap of $10.94B. It has a PEG ratio of 0.92. In the current quarter, institutional investors have bought 3.0M shares (net), which represents 5.11% of the 58.70M share float.

3. Hewlett-Packard Company (HPQ): Diversified Computer Systems industry with a market cap of $73.2B. It has a PEG ratio of 0.99. In the current quarter, institutional investors have bought 100.8M shares (net), which represents 4.87% of the 2.07B share float.

4. Citigroup, Inc. (C): Money Center Banks industry with a market cap of $116.21B. It has a PEG ratio of 0.87. In the current quarter, institutional investors have bought 139.2M shares (net), which represents 4.78% of the 2.91B share float.

5. Wells Fargo & Company (WFC): Money Center Banks industry with a market cap of $145.93B. It has a PEG ratio of 0.97. In the current quarter, institutional investors have bought 235.6M shares (net), which represents 4.77% of the 4.94B share float.

6. Microsoft Corporation (MSFT): Application Software industry with a market cap of $224.56B. It has a PEG ratio of 1.0. In the current quarter, institutional investors have bought 305.4M shares (net), which represents 4.09% of the 7.46B share float.

7. Staples, Inc. (SPLS): Specialty Retail, Other industry with a market cap of $10.89B. It has a PEG ratio of 0.84. In the current quarter, institutional investors have bought 21.9M shares (net), which represents 3.09% of the 707.97M share float.

8. Nasdaq OMX Group Inc. (NDAQ): Diversified Investments industry with a market cap of $4.26B. It has a PEG ratio of 0.79. In the current quarter, institutional investors have bought 3.1M shares (net), which represents 2.43% of the 127.48M share float.

9. Hartford Financial Services Group Inc. (HIG): Property & Casualty Insurance industry with a market cap of $11.18B. It has a PEG ratio of 0.88. In the current quarter, institutional investors have bought 8.3M shares (net), which represents 2.07% of the 401.04M share float.

10. Harman International Industries Inc. (HAR): Electronic Equipment industry with a market cap of $3.24B. It has a PEG ratio of 0.82. In the current quarter, institutional investors have bought 1.4M shares (net), which represents 2.01% of the 69.68M share float.

(List compiled by Andrew Dominguez)

Holding on to unclaimed property could soon begin hurting corporate bottom lines as cash-strapped states adjust their escheatment policies in an effort to raise revenues. States are changing the rules regarding the seizure of lost property, changing the reporting requirements for corporations that must report unclaimed property, and increasing audit activity and the size of fines, all in an effort to speed up the process that awards unclaimed funds to their rightful owners or to the state.

An area of compliance that hasn’t generated a lot of concern from corporate secretaries may soon command their attention – but not in a good way. Fines for non-compliance can be in the millions.

‘We’re seeing states increase the number of audits that they conduct in an effort to induce penalties, fines and interest fees,’ says Karen Anderson, vice president of compliance at Unclaimed Property Recovery and Reporting, which provides pre-escheatment owner location services to corporations.

‘States are also changing the extent of what needs to be reported – for example, making it clear that they want the social security numbers and even email addresses of the owners of lost property,’ Anderson says. Such changes have financial implications for companies because internal systems and controls may need to be adjusted in order to meet the new standards of compliance.

John Buonomo, senior vice president of regulatory services for AST, says the dormancy periods for unclaimed property continue to shrink, which means companies have to be more diligent about alerting the state that the time owners have to collect their property has expired. He says most states used to have five-year dormancy periods, with some at seven years, but now ‘there are no sevens and very few fives; almost everyone is at three years, with a few states pushing to move to two years on certain assets.’

Time is short

Unclaimed property laws in 48 states and Washington, DC have dormancy periods that are triggered by inactivity, so companies need to be aware of the length of time that each state believes constitutes ‘inactivity’. The faster the dormancy period is reached, the faster the states can start assessing fines or collecting lost assets for their coffers.

Increasing the number of audits also increases the opportunities to collect fines. Buonomo says California was one of the first states to begin aggressively fining companies, but Michigan is implementing fines this year and other states are following. Experts estimate that in most states, only 15 percent to 35 percent of all companies are in full compliance with escheatment laws, so enforcement could yield a pretty penny.

The cost to some companies could be huge. On unclaimed property consulting firm Keane’s website, a blog post written by chief compliance officer Debbie Zumoff and Valerie Jundt, the managing director of Keane National Consulting and Advisory Services, warns that ‘because there’s virtually no statute of limitations for unclaimed property in most states, the time frame for compliance may be expanded, creating the need to estimate liability for historical years. This can result in an increase in the known liability by three to eight times, translating into millions of dollars potentially owed to states in fines and penalties.’

And states are ramping up efforts to collect, with the backing of the courts. Insurer John Hancock has been involved in three collection actions already this year – a $20 million unclaimed property settlement in California, an agreement to establish a $10 million fund to repay beneficiaries and supply an additional payment of $3 million to three regulatory agencies in Florida, and a settlement with Louisiana, 35 states and the District of Columbia to recover unclaimed insurance proceeds.

Financial institutions such as John Hancock have become prime targets for states that have stepped up enforcement of escheatment laws. Jundt identified several areas where financial institutions were particularly vulnerable to liability in a recent article she penned for Bankers Digest. During an audit, states may find that financial institutions have not properly identified potential unclaimed property that should be included in their annual reports, have forgotten to return small loan credit balances to customers, have not followed up proactively to reactivate customers’ dormant accounts, or have simply made filings to the wrong state. Because financial institutions deal with massive amounts of money and potentially millions of customers, mistakes are often duplicated many times over, and this can lead to multiple fines that can add up to millions of dollars.

Staying in compliance

To avoid state actions, Anderson suggests companies reassess their policies and procedures on unclaimed property to make sure that they are in line with state regulations. Some states have changed their rules concerning the types of assets that are considered unclaimed property, so being proactive about compliance before being audited will help companies to avoid fines.
‘With so many states cash-strapped and extending their reach, being proactive has never been more important than now,’ says Anderson.

Companies should also review the effectiveness of their unclaimed property efforts more regularly, looking for ways to improve efficiency. A quarterly review of company procedures involving reaching out to unclaimed property owners or exploring new options for locating beneficiaries is a positive step.

Buonomo, whose company helps stock issuers locate the owners of lost shares, says stock issuers, who often find themselves in the position of locating beneficiaries of shareholders who have died or forgotten about shares, should consider implementing escheatment programs that can handle unclaimed property issues in the future. He says such programs, which actively seek out the owners of unclaimed property and return it to them, can have a positive effect on the reputation of a company. Stock issuers usually don’t pay for programs that return shares to shareholders – instead, companies charge the shareholders a fee for alerting them to their lost asset. Even thought they have to pay a little to get hold of their assets, customers will generally think highly of a company that is honest enough to return money to them that they didn’t know they had coming.

Such programs can also protect corporate secretaries and investor relations executives from the wrath of their boards. ‘If you get hit with a $500,000 fine from California for being late on escheatment of property, no exec is going to be able to explain that away to the board,’ Buonomo says.

[Article by Matthew Scott, Corporate Secretary]

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