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Is Shoe Zone PLC A Contrarian Buy After 25%+ Fall?

Shares in AIM-listed budget shoe retailer Shoe Zone (LSE: SHOE) fell by 28% this morning, after the firm issued a profit warning and cut its planned dividend payout for the current year.

The firm blamed unseasonably warm winter weather for the slowdown in revenue growth, which it says was driven by customers choosing lower priced warm weather shoes, such as ladies ankle boots, rather than more highly priced winter offerings such as long boots.

Despite this disappointment, I reckon today’s sell-off could be overdone: Shoe Zone shares weren’t expensive to start with, and the firm’s finances remain strong.

Too vague

My biggest concern about today’s announcement was that it was so vague.

The firm said that “sales volumes increased” over the last six months, but that “average price was down”.

Margins remain “robust” and the net cash position is “strong”, but full year results are expected to be “below expectations” and the dividend will be “adjusted accordingly”.

Today’s statement did not contain a single number, making it very hard to estimate how far below expectations this year’s profits and dividend payment are likely to be. This makes buying at today’s prices a risk, but may also be the reason the shares have fallen so far.

A look at the numbers

Before today’s announcement, Shoe Zone’s house broker was forecasting earnings of 20.5p per share and a dividend of 12.3p per share for the firm’s current financial year, which ends in October.

I reckon that these forecasts will be cut by at least 10%, perhaps more. Assuming a reduction of 20% in both earnings per share and the dividend, here’s how things look with the shares at 183p:

20% cut to current 2015 forecasts

Values

Forecast P/E

11.2

Prospective yield

5.4%

Although this is only a guess, if accurate, Shoe Zone shares could now be quite attractively priced.

It’s worth remembering that the firm had net cash of £9.1m at the end of last year, and expects to end this year with net cash as well.

Not without risk

I believe Shoe Zone could be a profitable contrarian buy: if this year’s profit miss turns out not to be as bad as expected, the shares could rise sharply.

On the other hand, the old stock market adage that profit warnings come in threes is very often true, as management only gradually admit the scale of the problems they face.

If you’re tempted to buy today, I’d buy small, and wait for better news before acquiring more shares.

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Roland Head has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.