Shopping for Retailer Stocks by Following the Insiders

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If you have owned shares of retailers, you probably know that their prices can be very volatile. However, a smart investor should try to exploit such volatility to enhance the overall return of his portfolio. I personally have bought and sold the shares of many retailers, and I am glad to report that in more than 90% of the cases, I have made decent profits.

I did so usually with three steps. First, I will select a group of retailer companies with solid fundamentals and put them on my watch list. The hallmarks of a good retailer are, from a business point of view, an appealing brand, and from a financial point of view, a clean balance sheet. If a retailer has no significant amount of debts or other liabilities, and significant amount of cash, then it could afford a misstep here and there, or even a few bad quarters. After all, a lot of them are in the fickle fashion business and it is hard to read fashion trends right all the time.

Second, I start to analyze a company’s business when its shares are traded at lower prices relative to its recent prices, usually when they have suffered from a huge price decline. I will try to figure out whether its underlying business has suffered from a temporary setback, or a long-term decline. Of course, this is the toughest part. If you look at any company whose stock has declined significantly, you will find some reasons for that. The key is try to form an informed opinion as to whether such decline is proportional to the reasons that Mr. Market has used to punish the share price. If not, then you may have found a good buy.

Third, I would use the insider transactions in the shares of the company to back up my own analysis. If the insider sentiments are favorable, then I start to build a long position, no matter how negative Mr. Market feels toward the company. In evaluating insider transactions, I look at (1) the number of insiders who are buying, (2) the position of each of such insiders, (3) the size of their purchases, and (4) their track records as the investors of their company’s shares.

Now let’s put my strategy to test on the following companies: Abercrombie & Fitch (NYSE: ANF), bebe stores (NASDAQ: BEBE) and Decker’s Outdoor Products (NASDAQ: DECK).

Abercrombie & Fitch

Does the company have a clean balance sheet? Yes. It has a long-term debt/capitalization ratio of about 8%, and has got over $300 million cash.

Does the company have an appealing brand? The brand might have lost some of its appeal as the company is going to close about 180 stores in the U.S. However, it is fair to say that ANF is not going away. It occasionally stirs up some controversies, and ironically, I see the ability of ANF to do that as a sign that it is still a force to reckon with in American retail business.

Has its price suffered from a huge decline? Yes. It is traded in the low $30s, or a forward P/E well below its historic average. Its 52-week range is between around $28 and $77.

Is the price decline reflecting a long-term deterioration of its business fundamentals? Probably not. Its current woes probably have more to do with the overall economic environment and management’s decision not to resort to discounts so as to protect its premium brand image. Its CEO has been there for over a decade now. Although a lot people complain about his outsized compensation package, ANF has achieved a lot under his stewardship. It is not unreasonable to expect him to deliver again.

Are insider sentiments favorable? Yes. One insider, Craig Stapleton, a director, bought 10,000 shares at around $35 per share in May. This is not a small change. Mr. Stapleton sold about 7,400 shares of ANF back in September 2011 at around $70 per share.

Overall I think ANF should be a buy, if not a strong buy. There are risks but given a year or two, the company should be resilient enough to bounce back.

bebe

Does the company have a clean balance sheet? Yes. It has a long-term debt/capitalization ratio of about 0%, and has got over $193 million cash.

Does the company have an appealing brand? Well, I don't have a lot to say here. BEBE does not really stand out. It is a matter of personal opinion, but I feel it is just another store in the mall.

Has its price suffered from a huge decline? Yes. It is traded at around $4.25, close to its book value per share. It used to be traded above $20.

Is the price decline reflecting a long-term deterioration of its business fundamentals? More likely than not. BEBE’s current woes started long before the Great Recession. CEO and founder Manny Mashouf and his family control over 50% of the shares. During the last several years, key executives at BEBE have come and gone through its revolving door, and each time the promise of turning the once arguably hot retailer around vanished.

Are insider sentiments favorable? Hardly. One insider, Liyuan Woo, vice president, corporate controller and principal accounting officer, recently bought around 2,000 shares at $5-6 per share in May. This is not a huge investment. On the other hand, other insiders, including Mr. Mashouf, have sold a lot of their shares en masse, or exercised their options when the market prices of the shares are not significantly above the exercise prices.

One can argue with its shares traded at their book value and backed up by around $2.00 cash per share, the downside with BEBE is limited. However, I would wait until I see the conviction of the insiders that a turn-around is around the corner before initiating a long position.

Deckers

Does the company have a clean balance sheet? Yes. It has a long-term debt/capitalization ratio of about 0%, and has got over $100 million cash.

Does the company have an appealing brand? Well, there are consumers who love its UGG boots, and there are consumers who hate them. The ability of the boots to elicit such strong feelings is a plus in my view. Have you heard people debating whether bebe clothes are a fad? It is a testament of a brand’s ability to even be a subject of such a debate. However, it is possible that the heyday of the boots are behind us.

Has its price suffered from a huge decline? Yes. It is traded at around $35, or a forward P/E ratio of around 8. Its historic high was over $110 per share.

Is the price decline reflecting a long-term deterioration of its business fundamentals? Maybe not. However, it may mean that the days of exponential growth in terms of revenues and earnings are behind us. However, even if the business maintains its current level of sales and earnings, it is still a stable company with a well-recognized product that many people love. Those people treat UGG boots as a staple in their life and will be repeat buyers to support the current level of customer demand.

Are insider sentiments favorable? Yes. In July, its CEO’s order for 10,000 shares at around $46 per share was filled. That is about half a million dollars. It probably means in the CEO's view, $45 per share represents a good entry point for a long position. In May, two of its directors bought about 3,200 shares at about $52 per share.

At this price level, the stock is attractively priced. Given its strong brand, DECK’s shares can be a good long-term hold.

 


TheDisciplined is long on ANF and DECK, and has no position in BEBE. The Motley Fool has no positions in the stocks mentioned above. 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.

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