Filed under: Bargain stocks, Chasing Value, Stocks to Buy
In a volatile market, investors need to keep one thing in mind: valuation. As the term volatile implies, stocks easily move up and down in this type of market. As a result, if you plan on holding a stock for the long run and don’t firmly believe in the future of your stocks, you stand to be incredibly stressed and nervous at almost all times.
On this note, I’d like to introduce a company that I consider to be a very interesting long-term play for this market — Steven Madden (NASDAQ: SHOO), a purveyor of middle-to-upper level shoes. While there are certainly issues with the company, namely the fact that the company’s founder is a convicted felon who served several years in prison (and got paid during this time), I think the turnaround in the stock is very interesting for a variety of reasons, most importantly the stock’s cheap valuation and recently announced increase in its share buyback.
Steven Madden sells a wide variety of shoes, encompassing products you might find at a discount retailer like Marshall’s to shoes that could be found at a high-end retailer like Bloomingdales, implying that the company has a highly diverse pool of potential buyers. As a result, if any one group of the consumer is hit (e.g., lower-class consumer), the company wouldn’t suffer completely because it also caters to a higher-class consumer. With the company in the process of designing a new line of dresses and growing in hot markets like New York and Las Vegas, I think there’s certainly potential for operating momentum going into next year.
The stock is very cheap at its current price of $26 per share, less than a dollar per share above its 52-week low. When the company reported earnings on Tuesday, it expects $2.00 to $2.10 per share in earnings per share this year, putting the stock at 13x this year’s earnings or less. When you look at other footwear companies priced around this level — Sketchers USA Inc. (NYSE: SKX) and Brown Shoe Inc. (NYSE: BWS) — the value in this earnings multiple quickly becomes apparent.
Sketchers is currently priced at around 12x this year’s earnings and Brown is trading for roughly 13.5x earnings. It’s interesting that these companies are being valued similarly to Steven Madden by the market despite less-profitable operations. Sketchers has a profit margin of roughly 5.7% and operating margins of 8.8%, while Brown has a profit margin of 2.65% and operating margins of 4.5%. Considering that none of these companies have terrible balance sheets (Brown has a little bit of debt and Sketchers is net-cash positive), they seem to make sense as comparables for the current valuation.
Steven Madden is significantly more profitable than either comparably priced company. The company boasts 9.45% profit margins and nearly 16% operating margins. In addition, Steven Madden is more efficient with its capital — its return on equity is significantly higher than either comparable.
While I’m not willing to put a “price target” on the stock, I think one can safely assume that the stock is considerably undervalued at its current price, assuming neither Sketchers nor Brown is drastically overvalued, and it is probably worth 15-18x earnings. On the downside, I don’t think the stock could trade below 11-12x earnings barring very extreme circumstances.
In the most recent quarterly report, the company also announced that it has increased its share buyback to $75 million. While this figure doesn’t seem very significant at first glance, when you consider that the company market cap is just $530 million, it quickly becomes much more significant. This buyback makes sense because the stock is currently undervalued. Also, it stands to bolster earnings per share in coming quarters, which could make the stock more attractive to Wall Street.
Looking for catalysts is also very important for value investments. I think the current consensus estimate for next year — $2.24 per share– is too low. This assumes growth of roughly 12% over this year. With sales expected to increase more than 7% and a share buyback of 15% of the float, this assumption figures incredible margin contraction — an unlikely scenario.
Although turnaround stocks can be risky in a volatile stock market, I don’t think that’s the case for Steven Madden. Not only is it profitable, but it earns significantly more per dollar in sales and greater returns on equity than any of its similarly priced competitors. Throw in the company’s great balance sheet, share buyback, and well-known brand, and I think the stock is very interesting for the volatile stock market.
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