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Ethan Allen Interiors (NYSE:ETH), the high-end furniture retailer, had enjoyed a very impressive run since the start of the year advancing 88% coming into the week. Much of this recent momentum was due to comments made last month at an investor conference, where the CEO Farooq Kathwari announced that orders for the first two months of the year had increased by 25% over last year. However, he did caution investors at the conference that most of these orders would not be delivered and recognized as sales until the fiscal fourth quarter which ends June 30, 2010. With that in mind, the company reported fiscal third quarter results on Wednesday morning that disappointed the market and sent the shares tumbling more than 9% as a result.

The company did report sales inline with estimates at $147.3 million a gain of 5% from a year ago. Furthermore, booked orders rose 20% to $176 million, a strong showing even if it was a little lower than the growth rateETH revealed at the conference. However, excluding some one-time events Ethan Allen lost five cents per share, which was worse than the break-even quarter that analysts had forecast. The company has improved dramatically from the loss of $.46 per share a year ago, but this was not as good a quarter as it needed to be to justify the rapid advance over the past 4 months. Gross margin did improve year over year, but not by the amount that analysts had predicted. The company decided to discount some of its furniture in order to stem market share declines, and while that likely has been responsible for some of the sales bump, it obviously compresses margins somewhat.

While management said that they were encouraged by the improving sales trends and growing consumer confidence, they were quick to add that they “remain cautious as the improvement in the economy is still at an early stage with many uncertainties on the horizon.” Looking ahead to their fiscal fourth quarter, Ethan Allen is expected to earn 14 cents per share on sales of $157.2 million. With orders of $176 million already on the books, it would not be a stretch that ETH can achieve these marks. However, for the full year the company will almost certainly still show a loss and double digit rate of sales declines.

At Ockham, we got caught in what turned out to be the “value-trap” of Ethan Allen last year as the price eroded seemingly faster than the fundamentals of cash earnings and sales. So, as you can see from our historical ratings chart, we initiated our Undervalued rating far too early last year and maintained it as the stock slipped. Clearly, the stock was not truly undervalued that whole time, but as the saying goes, hindsight is 20/20. Now, it appears to us that the stock has come full circle and is now Overvalued, having appreciated quite a bit faster than the fundamentals would justify. For example, the company has dealt with slumping sales and negative earnings for the last year, and yet it has been bid up quite a bit. We can see that the retail environment is improving, but we still think that a price in the high-teens would be easier to justify given the still weak fundamentals. Thus, we believe the stock was due to take a breather, and today’s weak results were simply the catalyst to the downward move.

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