Four Promising Stocks We're Now Considering Adding to our Model Portfolios

	Paul Tracy Street Authority.com
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The stock market faces plenty of headwinds in 2005, including rising interest rates, high energy prices and an expected slowdown in corporate earnings growth. Although that could make for some choppy trading in the broader market this year, it doesn't spell trouble for all stocks. My staff and I are always on the lookout for companies that should perform well even without much help from the broader market averages.

With that in mind, we recently went on a search for fresh new investing ideas -- companies that boast very promising future growth prospects, are reasonably valued and sport sustainable competitive advantages. After countless hours of research, we came up with a short list of four stocks that we haven't covered extensively before, but that now look like compelling stories for the year ahead.

If and when they ultimately meet our stringent investment criteria, we may add a few of these solid ideas to our various model portfolios. Please stay tuned for further details and possible special News Flashes when we add our top picks here in the coming weeks!

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OMI CORPORATION (OMM, $18.60)

Business Overview
OMI is an oil tanker operator that boasts a fleet of more than 40 oil tanker ships across the globe. In addition, the company has another nine ships under construction -- about half scheduled for delivery this year and the other half due in 2006.

The company's fleet consists of 26 "product carrier" ships -- vessels designed to haul refined petroleum products like gasoline and kerosene. The other 15 ships -- known as "Suezmax" carriers -- are designed to transport crude oil from production sites to refineries for processing.

Competitive Advantages
OMI's main competitive advantage lies in its modern, efficient tanker fleet. By April of this year new regulations will require that companies phase out older so-called single hull tankers. With only one solid hull, even a small rupture can cause these single-hull vessels to spill millions of gallons of petroleum products into the sea, creating a major environmental disaster.

While some carriers still have a ways to go in meeting this requirement, OMI recently sold off its last single-hull tanker. What's more, the company has already purchased plenty of new ships to replace that old single-hull capacity. As a result, in sharp contrast to many of its peers, OMI won't have to make huge new capital investments over the next few years just to replace aging capacity.

Even better, the average age of an oil tanker across all shipping companies is over 10 years. By comparison, OMI's average tanker is only three years old. That means the company should face minimal expenses over the next few years to keep its fleet in good working condition. Meanwhile, the competition will be forced to spend millions to replace or repair aging older ships.

Growth Drivers
Strong demand for the transportation of crude oil and refined petroleum products should fuel OMI's growth for years to come. Demand for crude oil has been extremely high over the past few years, thanks in large part to the fact that Asia has moved from a net exporter of oil a little over a decade ago to a major net importer. Fast-growing economies, most notably China, have been rapidly ramping up their purchases of oil to keep pace with domestic demand.

All that demand for imports has led to strong demand for oil transportation to key markets like China and the U.S. As a result, shipping rates increased four-fold from the beginning of 2003 to the end of 2004.

Turning our attention to the supply side, keep in mind that it takes several years to build new ships and to bring new shipping capacity online. Therefore, supply can only slowly adjust to strong demand in this market. This tight supply environment should lead to continued high pricing for tanker companies over the next few years. And for a company like OMI, which faces relatively low capital spending requirements in the coming years, that higher pricing will drop straight to the bottom line.

Valuation and Outlook
Analysts expect OMI to earn around $2.60 in 2005 and to post long-term earnings growth of about +12% per year. Based on those estimates, the stock is trading at around 7 times earnings and with a P/E-to-growth (PEG) ratio of just 0.58. Given that PEG ratios under 1 are considered cheap, OMI is one of the cheapest stocks on a PEG basis that you'll encounter.

And there's potential upside to that growth estimate. Analysts have consistently underestimated OMI's growth since the beginning of 2003. The reason is that many analysts are projecting an eventual drop in crude oil pricing back towards the $30 level. However, the oil market has ignored those projections and continues to trade around $45. If demand remains strong and supplies tight, then my staff and I believe OMI will deliver growth well in excess of +12% over the long term.

ORLEANS HOMEBUILDERS (OHB, $21.37)

Business Overview
Orleans builds single-family homes and condominiums. The firm targets just about every imaginable market segment, ranging from relatively low-cost houses for first-time buyers to luxury homes. Although the company currently operates in just seven different states, Orleans has been expanding rapidly into new markets in recent years.

Competitive Advantages
After years of strong gains, the housing market is likely to slow somewhat in 2005 and beyond. That's not to say that the property market will collapse; simply, housing price inflation will likely slow to more sustainable levels. Although that slowdown will have an impact on all homebuilders, OHB should continue to post solid growth in the coming years thanks to its relatively small size.

OHB operates in only seven states and only about 10 important markets within those states. In recent years the company has expanded very rapidly, entering the Chicago market via a small acquisition over the past few months and expanding its presence in North Carolina and Georgia last year. However, there remain plenty of new, unexploited markets that OHB could target in coming years.

For example, as of now the company has a small operation in the Orlando, Florida area. Given strong population growth in Florida, we wouldn't be at all surprised to see OHB expand its footprint there. In addition, the company has no presence right now in western states like California, Nevada or Arizona -- all of which are fast-growing markets for homebuilders.

We believe that OHB's rapid expansion into new markets will more than make up for any slowdown in the property market at large. Given that OHB has more room to grow than most of its larger rivals, it should outperform the competition in the years ahead.

Growth Drivers
Going forward, OHB should benefit from two major growth drivers: organic growth in its key markets and expansion into new markets. Above, we outlined the case for the company's expansion into new markets.

On top of this, we believe organic growth in existing markets will remain stronger than many analysts expect. While the housing market may slow somewhat, OHB's strong backlog of homes is a testament to the fact that its core markets remain healthy. In the third quarter, the company reported an order backlog of over 1,600 homes, up from 1,100 homes at the end of June and just 750 homes in mid-2003.

The housing market isn't national, but is instead local. Some markets will likely remain more vibrant than others in the event of a housing slowdown. For example, the migration of retirees from the Northeast to the South should benefit markets like Orlando and Atlanta -- two markets where OHB has a strong presence. In addition, the rapidly growing biotechnology industry has expanded into North Carolina in a big way over the past few years, and OHB has a strong presence in that state.

Valuation and Outlook
OHB is a classic value play and is one of the cheapest homebuilders you'll encounter. The company trades at less than 7 times projected 2005 earnings. Meanwhile, analysts peg long-term growth at +15%, giving the stock a PEG ratio of less than 0.5.

Based on the company's extremely low PEG ratio, investors are likely expecting the company's growth rate to slow in the coming years. But as we outlined above, Orleans' potential for expansion and strong organic growth in existing markets will keep the firm growing even if the housing market slows down. This defensive growth makes OHB seem particularly cheap.

Based on current growth estimates and applying an average industry PEG multiple, OHB should be trading at nearly 8.5 times 2005 earnings, or about $27. That price is a full 30% above current levels, and that's just assuming OHB catches up to the industry.

If the housing market remains relatively resilient, as we expect, then OHB could trade at a PEG closer to 0.75, suggesting a much higher target price of over $40. With this in mind, OHB could make an excellent addition to our Value Portfolio.

ALLIED DOMECQ (AED, $39.15)

Business Overview
Allied Domecq operates two main businesses -- a chain of quick service restaurants (QSRs) and a global spirits and wine operation. The company's QSRs include Baskin-Robbins ice cream parlors, Togo's sandwich delis and its core Dunkin' Donuts bakery and coffee franchise.

On the wine and spirits front, AED owns and markets several of the best-known alcohol brands worldwide. The list includes Courvoisier cognacs, Malibu rum and Stolichnaya vodkas. In total the company boasts 14 of the 100 leading global alcoholic beverage brands.

Competitive Advantages
The key to the alcoholic drinks business is branding. Larger well-known brands attract the best shelf space and tend to grab the most attention from consumers. What's more, surveys show that consumers are particularly loyal to spirits brands and rarely change to new brands based on price. Big spirits companies also have well formed distribution channels and are capable of putting their goods in front of more consumers worldwide. These factors help liquor companies charge premium prices for the best-known brands.

Few companies have the brand strength that AED enjoys. In almost all of the major spirits categories -- including vodka, whiskey, gin and brandy -- AED boasts either the best or second-best selling brand name. This recognition gives the company a leg-up on the competition.

On the QSR front, barriers to entry are quite low. However, just as with the drinks business branding is key and the strength of AED's two main restaurant concepts, Baskin-Robbins and Dunkin' Donuts, gives the company a leg-up on the competition. Specifically, Dunkin' Donuts is the largest U.S. doughnut chain and is extremely well known among domestic consumers. Baskin-Robbins is certainly a top ice cream restaurant and commands equally powerful brand recognition. Because consumers tend to keep going back to their favorite restaurants, this represents an important advantage.

Growth Drivers
We like management's focus on the Dunkin' Donuts brand. Specifically, AED took its cue from Starbucks' success and has rapidly expanded into flavored specialty coffee. These coffees have been very hot sellers with consumers, and they've also encouraged customers to return to AED's stores on a more regular schedule. This shift in product mix away from pastries and towards coffee should continue to help AED post solid organic growth.

Meanwhile, all three of AED's core restaurant brands have plenty of room for expansion. The firm's Dunkin' Donuts brand alone has about 5,800 locations worldwide, with 85% of them in the U.S. When you consider that rival Starbucks has some 9,000 locations worldwide (with an eventual projected target of roughly 30,000), it's clear that AED still has plenty of room for expansion both domestically and overseas. Baskin-Robbins has a little over 5,100 locations (half in the U.S.) and Togo's has less than 500 mainly U.S. locations. Neither brand has completely saturated its potential markets.

On the drinks side, growth in developing markets could be a driver. Consumer tastes in rapidly developing countries across Eastern Europe and Asia are shifting in favor of premium-priced top-selling western liquor brands and away from locally produced spirits. This is opening up a potentially huge market for AED's drinks.

Valuation and Outlook
With projected earnings of more than $3.00 per share next year, AED appears to be an exceptional value play at current levels. And thanks to the popularity of both its branded drinks and its new coffee offerings at Dunkin' Donuts, we also believe that AED could grow at an even faster clip than Wall Street expects in the years ahead. 

Assuming +10% annual growth, AED should be earning close to $5 per share within the next few years. Applying its current P/E multiple of just 13, the stock could easily trade above $60. In addition, that return will be boosted by the company's 3.75% dividend yield.

What's more, rumors abound that French liquor producer Pernod Ricard is looking to acquire AED. Deals in the liquor business have been generating high premiums for target shareholders in recent months. What's more, the resulting company would be a real powerhouse in the drinks business, as it would quickly become the second-largest liquor company in the world. Yet even if the deal doesn't take place, AED looks like a compelling value play as a standalone entity.

PORTFOLIO RECOVERY ASSOCIATES (PRAA, $40.94)

Business Overview
Portfolio Recovery Associates is a debt collector. The company buys defaulted credit card and retail debt for a tiny fraction of the actual amount owed -- as little as $0.03 to $0.05 per dollar of debt. The company then attempts to collect that debt from consumers either directly or through the court system. The company purchases both newly defaulted debts as well as debts that have been outstanding and unresolved for several years.

Competitive Advantages
There are only a handful of competitors in the debt collection space and the three largest are PRAA, Asset Acceptance Capital (AACC) and NCO Group (NCOG). Combined, these three companies have a market capitalization of just a little over $2 billion -- a tiny fraction (about one-thousandth) of the $2 trillion consumer debt market in the U.S.

Given the small size of these debt collection firms relative to their potential market, all three should have plenty of room to expand simultaneously without treading on each other's toes. Therefore, competition is less of an issue here than for most other industry groups.

However, when it comes to collecting debts, PRAA is far more aggressive than old-style debt collection agencies. The company also benefits more directly from its collection activity. Debt collection agencies traditionally get paid a fixed fee by credit card companies in exchange for collecting debts. This normally involved sending some letters to customers or calling them; only in large cases were lawsuits initiated.

PRAA is more aggressive than that. Instead of earning small fees, PRAA and its competitors actually buy defaulted debt and try to collect as much as possible on that debt. This provides the company with a strong incentive to maximize collections. With this in mind, PRAA has been successful in collecting smaller and older debts using the court system. These are cases that routinely go untouched by traditional debt collection agencies.

Growth Drivers
PRAA's future gains will be driven primarily by strong expected growth in the debt collection business. Consumer debt is growing at a breakneck pace, and even when the economy is very strong, a fairly stable percentage of people end up defaulting on those debts.

Consider a few basic statistics about credit card use in the U.S. Back in 1990 the average consumer carried a $2,500 balance on his/her credit cards. By the end of 2003, however, that number had surged nearly +200% to over $7,500. At the same time, the number of U.S. households holding at least one active credit card jumped from about 75 million to over 144 million and the annualized amount charged to those cards jumped from about $330 million to over $1.5 trillion.

Given that spectacular growth, it should come as little surprise that back in 1993 credit card issuers sold off just $660 million in debts, yet that figure grew to over $57 billion last year. In 2003, PRAA spent about $62 million to acquire new defaulted debts for collection. The company's blended rate was about 2.77% -- in other words, that $61.8 million represented about 2.77% of the face value of the debt purchased. That means that the debt purchased by PRAA was worth about $2.2 billion in face value. If the company manages to collect a total of just 5% of those debts, then it will bring in revenues of more than $110 million from the deal. Looking at this example, it becomes clear just how profitable this line of business can be.

PRAA is one of the largest companies in this industry, yet it only processes a tiny fraction of the total defaulted debt available for purchase. With this in mind, the company has plenty of room to deliver above-average organic growth in the coming years.

Valuation and Outlook
PRAA trades at just under 20 times projected 2005 earnings and the firm is expected to grow at a +20% annual clip going forward. That gives the company a PEG ratio of just under 1 -- a nice discount to the S&P 500's average PEG, which is closer to 1.55.

PRAA is also one of the highest quality and financially solid names in its industry group. The company's Return-on-Equity (ROE), a key measure of value generated for shareholders, stands at 20% while the company carries almost no debt and sports over $3.50 per share in cash. By contrast, the industry-average ROE is closer to 10% and most of the competition carries a much higher debt burden. Normally, financial stability and solid ROEs result in a premium valuation. As such, we wouldn't be surprised to see PRAA's valuation increase significantly from current levels.

My staff and I believe there's scope for this market to grow even faster than analysts are projecting. Record-high consumer debt levels may result in higher charge-off rates than in prior years, expanding the potential market for PRAA. What's more, credit card companies are increasingly trying to package and sell their defaulted debts in an effort to get the non-performing loans off their books. This will also result in fast growth for the industry. With all of these factors in mind, we're now considering adding PRAA to our Aggressive Growth Portfolio.

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We sincerely hope you've enjoyed today's look at four high-quality stocks that we're now considering adding to our various model portfolios. Please stay tuned for our next full issue, which we'll publish on Monday, February 21st. In it, my staff and I will bring you a closer look at one of today's most promising tech markets -- radio frequency identification (RFID) systems and software. Good investing in the week ahead!

Paul Tracy will be available for questions until Monday, February 21. Don't miss this chance to ask your questions using the below form.