3 Stocks To Buy For 3 Very Different Reasons
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
When you look at the retail sector, some stocks are trading at reasonable multiples while others are overly depressed. I find that the general discount retailers, like Wal-Mart (NYSE: WMT), are reasonably priced whereas specialty retailers, like Staples (NASDAQ: SPLS) and OfficeMax (NYSE: OMX), are meaningfully undervalued. Below, I review the fundamentals of each stock.
Equipped with a growing and stable brand, Wal-Mart is one of the safest stocks, period. The benefit of investing in the retailer is that it is more or less recession-proof. While poor macro trends will result in consumers substituting towards lower-end retailers like Wal-Mart, strong macro trends wilier result in greater spending overall. Either way, Wal-Mart wins.
Moreover, Wal-Mart is not as exposed to the intense competition from online retailer Amazon (NASDAQ: AMZN), which has been dubbed the "showcase of Best Buy". With new smartphone apps that enable consumers to scan a barcode at a store to purchase it ultimately online, the brick-and-mortar model is coming under pressure. Wal-Mart, however, is so cheap that consumers who go there really won't be scanning barcodes to find a discount… it is, after all, "low prices, always". Better yet, the company is using technology changes to its advantage. It plans to test iPhone-automated self-checkout at certain stores. This will help cut costs while cementing an innovative brand. At the same time, a new search engine to redirect web traffic has increased sales.
As a result of its unique position, Wal-Mart is not exactly cheap. It trades at a respective 15.3x past earnings with limited growth opportunities. Although ROE and ROI are both solidly in the double-digits, analysts rate the stock merely around a "hold".
As stable as Wal-Mart’s niche market is, many bears argue that it will still face challenges from, say, the market segmentation of Target (NYSE: TGT) and Dollar General . Well, Wal-Mart continues to succeed in easy and challenging markets alike. The UK, Mexico, and Canada markets were particularly tough, and yet Wal-Mart managed to not only grow revenues but to expand margins and deliver solid expense leverage. If safety is your kind of thing, Wal-Mart is thus an attractive option. But greater reward can be found elsewhere…
Staples and OfficeMax
You may now know Staples best for being the company that Republican presidential candidate Mitt Romney helped develop through venture capital. That same company continues to be undervalued. It trades at a respective 8.2x and 7.6x past and forward earnings. Moreover, growth has not been fully factored into the stock price, as evidenced by the PEG ratio of 0.75.
Assuming Staples' meets analyst expectations for 10.9% annual EPS growth over the next 5 years, 2016 EPS would come out to $2. At even a 13x multiple, the future value of the stock is $26. Discounting backwards by 12% yields a present value of $14.75, which makes Staples around 35% undervalued.
But, it gets better. The stock is only 90% as the broader market, and the dividend yield is very generous at 4%. Shares are now the 52-week low while free cash flow over the TTM has been edging upwards.
The strategy for Staples going forward will be to increase scale and awareness. A recent study from GroupM Next showed that nearly half of prospective shoppers at physical stores will complete the transaction online if they are able to save 2.5% or more. I believe that the company should consider buying out competitor OfficeMax to not only increase brick-and-mortar presence but to hedge against its vulnerable online visibility. While the company may never be able to successfully penetrate the online market, it can successful create an oligopolistic control of the office retail space. So, in conclusion, I recommend buying shares in OfficeMax to capitalize off of takeover speculation; buying shares in Wal-Mart for safety; and buying shares in Staples for multiples expansion.
TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Amazon.com and Staples. Motley Fool newsletter services recommend Amazon.com and Staples. 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.If you have questions about this post or the Fool’s blog network, click here for information.