When a stock’s fallen heavily, there are two potential actions I can take. One is to stay away, if I’m concerned the share price still has further to fall and the company has serious problems. The other is to decide that it’s now undervalued and has become a value stock that’s worth me buying. Here’s one I’m trying to make that call on right now.
Struggling with demand
I’m referring to Dr Martens (LSE:DOCS). The fashion footwear brand’s down 50% over the past year, with several issues causing some shareholders to head for the exit.
Ahead of the full-year results being released in May, CEO Kenny Wilson confirmed he would be stepping down. The earnings report did little to ease the concerns, with revenue and profit before tax both down heavily from the prior year.
Demand out of the US was pointed to as a key factor in the poor results, with revenue from this region dropping from £428.2m to £325.8m. Another problem was a higher cost base, partly down to inflation. Ultimately, with lower demand and higher costs, it’s not a great recipe for generating a profit. This remains a risk going forward.
As for H2, trading updates have shown performance is in line with expectations, with no nasty surprises in the past couple of months.
Reasons to like it
With this background, some might think I’m crazy for considering this as a value stock. Yet let’s consider some points.
Even with really weak demand, the business managed to generate a profit before tax of £93m. This is because it has a high EBITDA profit margin of 22.5%. This means that even if problems persist for a while, it still has a buffer to prevent it from losing money. Of course, some of this is simply due to the sector it operates in. But it’s certainly a good sign if a business can still make money when times are tough.
The price-to-earnings ratio of the stock is now 7.73. The fall in the share price has caused the ratio to fall below 10, which is my benchmark for a fair value. Although it’s not dirt cheap, it’s certainly on my radar using this metric as being a value stock.
Finally, I like buying stocks that are beaten down if the company has a strong history. The business has been operating since 1960. Although it has experienced highs and lows over the decades, it has never gone bust. So this gives me confidence that it can overcome this current difficult patch.
My strategy from here
I’m conscious that the share price is in a downward trend. Trying to pick the lowest level is impossible. That’s why I think I’m going to start by purchasing a small amount of the stock and then do the same in the coming months to ‘pound-cost-average’.
