Share markets have taken a tumble over the last few trading days. It is the first time that we have seen this much red in the share market for a long while – back to hiccups in the market in 2022. We urge investors not to panic as volatility causes nervousness with many.

Our behavioural researchers at Morningstar preach that ‘laziness’ may be the best characteristic to take on during these times of stress. However, it may also be one of the times to exercise one of the key tenets of successful investing – buying quality companies at good prices.

The market drop has seen some companies come into favour, hitting five-star territory and trading at significant discounts to Morningstar’s fair value. Here are three stocks that have been punished by the market and look attractive.

AVITA Medical: AVH

Star rating: ★★★★★

Sector: Healthcare

Industry: Medical Devices

Investment Style: Small Core

Economic moat: None

Avita Medical 6 August performance

AVITA is at a 53% discount to Morningstar’s Fair Value of $5.40 (at 6 August 2024).

AVITA medical is a company that specialises in burn treatments. Our analyst believes that AVITA will be successful based on the product’s clinical performance, ease of use and relative price point.

One particular product seems to be leading the charge for AVITA – their RECELL system that has been used since the Bali bombings in 2002. It creates a spray on skin within 30 minutes from a skin sample, typically less than 5% of the size required in a graft. It has been clinically demonstrated to heal the burn site as effectively as a skin graft without the need for a huge wound from a donor site that’s required from a graft.

It's had limited commercial success so far because it entered the market as an investigational device, and this limited the take up for the product. RECELL relaunched in the US in late 2018 and it’s approved for treating 2nd and 3rd degree burns in pediatric and adult patients. RECELL has a price of $7,500 USD versus $17,000 to $20,000 for a skin graft – it also has benefits of shorter length of stay and fewer additional procedures. Because of this promising outlook, AVITA is estimated by our analysts to ramp up to a 34% share of the market, or 4,800 patients per year by fiscal 2026. It’s likely to be loss-making until 2025.

AVITA is a small cap stock that is relying mainly on the success of one product and therefore has a high uncertainty rating. There’s obviously risk with uptake and the success of the roll out. The company is still in early stages for the commercial roll out, so it’s difficult to forecast success and therefore, the valuation has a high uncertainty.

However, the stock is trading at enough of a discount to justify it being a five star stock.

Domino’s Pizza Enterprises Ltd DMP

Star rating: ★★★★★

Sector: Consumer Cyclical

Industry: Restaurants

Investment Style: Mid core

Economic moat: Narrow

Dominos Pizza price to fair value

The recent drop of Domino’s share price puts it at a 48% discount to our fair value (at 6 August 2024). Domino's Pizza Enterprises is the Australian master licence holder of the Domino's Pizza brand. It also has operations in New Zealand, Japan, Singapore, Malaysia, France, Germany, Belgium, Luxembourg, Taiwan, Cambodia, and the Netherlands. The stock suits investors seeking exposure to the food and beverage sector. Management is active, importing marketing strategies from the United States, or creating new ones, and applying them to local trends in individual markets. Management has adapted to market trends by refreshing the product range, including healthier ingredients and gourmet styles, and transitioning to online ordering.

As a master franchisee, Domino's has limited capital requirements, which means royalty payments it receives in the future should continue to be paid as partially franked dividends. This makes returns on invested capital very attractive. Brand and scale are key competitive advantages warranting a narrow economic moat rating, and future growth prospects are significant. Despite significant growth during recent years, Domino's is by no means a mature business. Australia can still increase its store base by about one third in the next few years, and European growth is much more substantial, with potential to more than double the existing store base to around 2,900 outlets during the next decade.

We believe Domino’s warrants a narrow economic moat, sourced from intangible assets and cost advantages. A narrow economic moat is awarded when our analysts believe the company can maintain and grow competitive advantages over at least the next 10 years. Intangibles are derived from very strong global brand recognition. Domino’s was formed in 1960 and now extends to over 80 countries, with over 16,000 stores. Intangibles also stem from internally generated intellectual property, with the firm a leader in restaurant logistics and technology tools that build and maintain customer engagement and loyalty.

Tabcorp Holdings Ltd TAH

Star rating: ★★★★★

Sector: Consumer Cyclicals

Industry: Gambling

Investment Style: Small Value

Economic moat: None

Tabcorp share price

Tabcorp conducts wagering through a network of retail venues, including racing venues, hotels, and TAB agencies. The shares have fallen recently due to concerns over a cyclical fall in wagering and the sudden resignation of the company’s CEO.

Our analysts expect Tabcorp to remain the king of physical wagering due to licensing requirements. However, they also think the physical side of TAB’s business is in structural decline. The growth of online betting has eroded the value of TAB’s physical business. Punters can use their phone to bet with rival firms while in TAB-exclusive venues. As a result, geographic exclusivity no longer translates to a monopoly.

The shift to online betting was accelerated by Covid-19 shutdowns. And while our analysts expect Tabcorp's digital offerings to pick up some of this growth, the online space is much more competitive. As most online betting uses fixed odds, betting companies are essentially offering a commodity and are competing on price alone.

While TAB’s physical channels face a major threat from online wagering, they continue to deliver solid free cash flow. While the online space is more competitive, the shift to digital betting comes with some benefits too – like the fact that its costs are spread over far more bettors. As TAB’s online offering gains more scale, our analysts expect the firm’s overall operating margins to rise from 5% to 11% over the next decade. Tabcorp also has a strong balance sheet as the demerger of The Lottery Corp in 2022 removed most of its debt.

Key risks include faster than expected erosion in TAB’s physical business and regulatory risks. While regulators have traditionally focused on electronic gaming machines, they could spill over into other parts of the gambling sector and affect TAB’s business.

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Terms used in this article

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company's future cash flows, resulting from our analysts' independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.