With Martha's Troubles Behind Her, MSO Should Recover

| About: Martha Stewart (MSO)

Investopedia Advisor submits: I met Martha Stewart in New York in late 1999 soon after the Martha Stewart Living Omnimedia (NYSE:MSO) initial public offering. To be honest, I didn’t think too much of her. I likened her in my mind to Carol Brady of the Brady Bunch. I never thought she’d be successful. It turns out I was wrong.

No matter what you think of her, it turns out that not only did she find a brand that has become a household name, but she weathered a storm of criticism after her conviction for insider trading (involving shares of Imclone (OTCPK:IMCL)) that few could probably have endured.

Now, Martha served out her time. Everybody knows that. And, earlier this week she reached an agreement with the SEC to settle civil charges that were filed against her and were still pending.

As part of the agreement, Martha will pay a fine of $195,000 and agree not to serve as the director of a public company for a term of five years. She’s done her time, paid her fines, and with that weight off her back and the company’s, it looks as though the stock could be headed higher.

Not surprisingly, Martha is happy about this settlement, because it means she can finally go on with her life. And the company is happy, because for the first time in about three years, they’ll be able distance themselves from the scandal and talk about growing their business to both consumers and investors.

Obviously, this means that Martha won’t have day-to-day involvement with the company from a management perspective. But that’s okay, because for the past couple of years the company has fared quite well in her absence.

In addition, both its wares and its reputation are tied to a brand of quality that Martha’s followers desire, in spite of her conviction.

And beyond Martha, Susan Lyne, the company’s president and chief executive has proven herself to be a solid leader, guiding the company through some tough times and developing a host of potential revenue generators that could drive the stock well into the future. Digging deeper, MSO has been experiencing strong, double-digit increases in advertising pages in its Martha Stewart Living Magazine. This is good for two reasons.

First, because it provides money that can be used to build out partnerships and initiatives with companies such as Eastman Kodak (EK) and Macy’s (FD), as well as the Martha Stewart Living radio channel, which was recently launched on Sirius Satellite Radio (NASDAQ:SIRI).

The second reason is because it proves that the Martha Stewart brand remains strong, and that big name retailers want to continue to partner with the company, which should bode well for future merchandising opportunities, as well as put to rest any worries associated with the company’s falling out with Kmart (NASDAQ:SHLD). The deals with Kodak, to develop custom stationary and other products, and Macy’s, to launch Martha brands in the company’s outlets, should begin to bear some serious fruit in 2007.

Looking at the numbers, Martha Stewart Omnimedia sports about $2 per share in cash and has minimal debt. Given the growth of the broadcasting and magazine business, Wall Street figures the company could lose up to 11 cents per share in 2006, and earn 24 cents per share in 2007. Now, on a price-to-earnings basis, that’s hardly stellar.

But I like companies that are about to make money because it means that a host of institutional players, who might otherwise have avoided the stock may take an interest. It also would mean, I believe, more favorable research from Wall Street analysts and a higher share price.

Naysayers say the company’s second quarter results released in late July were lousy, but I disagree. The company posted a loss from continuing operations of about 1 cent per share. Obviously, this is hardly anything to write home about. But the deal with Sirius is new, and the Martha show has already earned 6 daytime Emmy awards. Plus, its deals with Kodak and Macy’s are new too, effectively putting a host of irons in the fire that can produce some serious bucks over the next 12 to 18 months.

To be clear, one shouldn’t expect fireworks in the third quarter either. Management has said that it expects the company to report and EBITDA (Earnings Before Interest Taxes, Depreciation, and Amortization) loss of between $5.5 and $6.5 million in the period. But again, I think that investors need to look beyond the third quarter, and for that matter the fourth quarter as well to 2007.

So where do I think the stock can go? With the Martha scandal out of the way, and if the company can indeed turn a yearly profit in 2007, I think the shares have an upside of about 20% from current levels, suggesting a stock price of around $20.

MSO 1-year chart:

By Glenn Curtis, Contributor - Investopedia Advisor

At the time of release Glenn Curtis did not own any shares in any of the companies mentioned in this article.