Why Cramer Is Wrong on Gordmans

Josh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Admittedly, one of my favorite methods of finding a good investment is to see what companies Jim Cramer doesn't like, and consider buying them for the long-term.  While this high-tech screener is not perfect by any means, it fits my contrarian values well and shows me many unappreciated and potentially undervalued companies.  By leveraging Cramer's influence on the general trading population, I can occasionally find short-term sales on great long-term investments.

He Has Spoken, Bearishly

The most recent company to pop up on my radar with this sophisticated screener was Omaha-based retailer, Gordmans Stores (NASDAQ: GMAN).  Posting a 40% drop since its 52-week high in April, many traders seem to be losing faith in the 98 year old department store chain.  With a downgrade in hand from TheStreet, Gordmans is left with a stock price slightly above its IPO of $10.85 in 2010.  Issuing the following statement, "The fact that the stock is now selling for less than others in its industry in relation to its current earnings is not reason enough to justify a buy rating at this time," TheStreet argues that there is basically no upside to its current price -- and I couldn't disagree more.

Reasons For My Bullishness

While it may not be a true value pick, or a high flying growth story, I believe that Gordmans is simply undervalued, and will outperform the S&P 500 over the long-term future.  As with any investment, I look for specific catalysts that will increase investor returns over the long haul.  With Gordmans specifically in mind, the catalysts are as follows:

  • Revenue Growth
  • Strong Margins
  • Solid Financials
  • A "Buy" Valuation
Revenue Growth
Targeting a 10% store front expansion rate for the mid-term future, Gordmans is going to continue diving into new markets throughout the Midwest.  Moving into 6 new stores in 2011 and 9 more in 2012, Gordmans has bumped its store count up to 83 total -- right at 10% growth over the last 2 years.  With plans of adding 9 more stores in 2013, Gordmans will have grown its store count over 35% in just the last 4 years.
Furthermore, with revenue growing from $433 million in 2009 to $598 million in the TTM, Gordmans has realized 7% revenue growth to go along with its 10% store front growth.  As I mentioned earlier, this is by no means a high flying growth story, but rather one that is simply undervalued.  
Strong Margins
<table> <tbody> <tr> <td><strong>Company</strong></td> <td><strong>Gross Margin</strong></td> <td><strong>Operating Margin</strong></td> <td><strong>Profit Margin</strong></td> </tr> <tr> <td><strong>Gordmans Stores</strong></td> <td> 43.6%</td> <td> 7.0%</td> <td> 4.3%</td> </tr> <tr> <td><strong>Ross Stores <span class="ticker" data-id="205245">(NASDAQ: <a href="http://caps.fool.com/Ticker/ROST.aspx">ROST</a>)</span></strong></td> <td> 27.7%</td> <td> 12.8%</td> <td> 7.9%</td> </tr> <tr> <td><strong>TJX Companies <span class="ticker" data-id="205761">(NYSE: <a href="http://caps.fool.com/Ticker/TJX.aspx">TJX</a>)</span></strong></td> <td> 28.0%</td> <td> 11.5%</td> <td> 7.1%</td> </tr> <tr> <td><strong>Kohl's <span class="ticker" data-id="204194">(NYSE: <a href="http://caps.fool.com/Ticker/KSS.aspx">KSS</a>)</span></strong></td> <td> 37.2%</td> <td> 10.6%</td> <td> 5.6%</td> </tr> </tbody> </table>
Alright, saying a company has strong margins, while having the lowest operating and profit margins of its peer group may not be the best way to sell an investment in Gordmans -- but stick with me.  While they have struggled to generate big-time profit margins since their IPO, they are growing nicely all the same.  Sitting at a measly 1.3% in 2009, Gordmans has delivered strong margin expansion as they currently sit at 7%.  With a strong store front expansion plan in place however, it may be difficult to continue boosting their profitability over the short-term.
With a growing store count, comes growing inventories, and Gordmans is no exception.  With all the new stores and a weak holiday season, 57% of the company's assets are inventory.  Holding this much inventory, Gordmans will inevitably take a hit on its margins, as it tries to clear its excess.  However, as the new stores begin to mature and become fixtures in their new markets, Gordmans will see a return to its higher margins.  Remember, 35% of the company's storefront was added over the last 3 years -- growth that may not generate high margins until we are a few more years down the road.
Over time, I believe Gordmans will capitalize on its best in class gross margin and will catch up to its peers' profitability.  Posting a gross margin 50% higher than its off-price retailing peers in Ross Stores and T.J. Maxx, Gordman has the opportunity to dominate its niche market.  As for its more distant peer Kohl's, Gordmans faces more direct competition, as 50% of the company's stores are operated within one mile of a Kohl's.
Solid Financials
<table> <tbody> <tr> <td><strong>Company</strong></td> <td><strong>Cash/Debt</strong></td> <td><strong>Inventory % of Assets</strong></td> <td><strong>Inventory Turnover</strong></td> <td><strong>Graham Number</strong></td> <td><strong>Stock Price (2/6/13)</strong></td> </tr> <tr> <td><strong>Gordmans</strong></td> <td>32M/301K</td> <td>57%</td> <td>2.75</td> <td>$12.05</td> <td>$12.54</td> </tr> <tr> <td><strong>Ross</strong></td> <td>625M/150M</td> <td>37%</td> <td>5.25</td> <td>$23.84</td> <td>$59.11</td> </tr> <tr> <td><strong>T.J. Maxx</strong></td> <td>1.84B/774M</td> <td>36%</td> <td>5.11</td> <td>$15.88</td> <td>$45.45</td> </tr> <tr> <td><strong>Kohl's</strong></td> <td>550M/4.58B</td> <td>32%</td> <td>2.66</td> <td>$51.21</td> <td>$46.25</td> </tr> </tbody> </table>
Holding the best Cash/Debt ratio of the group, Gordmans will be able to continue funding its growth, but will face challenges as it unloads its excess inventory.  Despite having the highest level of inventory, which account for 57% of their assets, the company is only one year removed from posting a 40% inventory level, in line with its peers.  Similarly, with its inventory turnover, Gordmans was hit hard with the double whammy of expanding its store count while facing what turned out to be a bad holiday season.  Three years earlier the company's inventory turnover was a much healthier 5.76.
Furthermore, Gordmans has the most appealing Graham Number of the group, as it is only slightly overvalued as to what Ben Graham would like to see.  While Kohl's trades below its Graham number, it has a large debt load and a historically low inventory turnover level.  As many traders wait to see Gordmans return its inventory levels back to its old standards, I am confident the company will see brighter days as its stores mature.
A "Buy" Valuation
<table> <tbody> <tr> <td>Company</td> <td>P/E & FP/E</td> <td>P/CF</td> <td>5 Yr. Rev. Growth</td> <td>5 Yr. EPS Growth</td> <td>5 Yr. PEG</td> <td>CAPS Rating</td> </tr> <tr> <td>Gordmans</td> <td>9.4/9.2</td> <td>7.4</td> <td>7%</td> <td>8%</td> <td>0.68</td> <td>5 stars</td> </tr> <tr> <td>Ross</td> <td>17.8/15.1</td> <td>14.4</td> <td>8%</td> <td>23%</td> <td>1.26</td> <td>4 stars</td> </tr> <tr> <td>T.J. Maxx</td> <td>19.3/16.1</td> <td>14.6</td> <td>6%</td> <td>19%</td> <td>1.50</td> <td>4 stars</td> </tr> <tr> <td>Kohl's</td> <td>10.6/10</td> <td>5.6</td> <td>3%</td> <td>9%</td> <td>1.55</td> <td>3 stars</td> </tr> </tbody> </table>
With a 5 star rating from the population at Motley Fool, many have taken notice of Gordmans strikingly cheap valuations.  While Kohl's is slightly cheaper in terms of P/CF, it does not have the future growth story and is loaded up with over $4.5 Billion in debt.  As the company has struggled to boost its EPS at the same rate of its off-price retailing peers, the market has cut their share price roughly in half.  Trading with a PEG of 0.68, Gordmans growth runway is there, it is just a matter of meeting their internal expectations.
Regardless of their disappointing 2012, I firmly believe Gordmans was hurt by a weak holiday season and will rebound dramatically in 2012.  In a recent outlook update, CEO Jeff Gordman announced the company had boosted same stores sales for the month of January by mid-single digits.  Not ground breaking stuff, but enough to justify a CAPS pick on the debt-free company, as I await a return to prosperity at Gordmans.

joryko has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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