Opportunity Knocks: 3 Stocks That Are Down But Not Out

Includes: ESV, SPLS, URBN
by: Craig Keolanui


Urban Outfitters is one teen retailer poised to make a comeback as the rest of the sector is busy considering how many stores to close.

Staples has quietly become a value, as most investors have jumped ship, losing hope that the stock will ever recover from so many beat-downs.

Ensco is curiously undervalued, and even comes with a healthy 6.2% dividend.

While the market has been driven more by the bulls, there are still some issues out there that have yet to receive much attention. These diamonds in the rough can often be hiding in sectors and industries that have been left for dead. Teen-oriented retail, office supplies and deep sea oil drilling are all different in so many ways. The sectors, however, have fallen out of favor of investors, and this makes a case for some compelling buys.

The following three stocks seem to have plenty to offer, especially for those looking for something to play long. Each of these companies are currently profitable, but have concerned investors with futures that investors consider to be less than bright.

I am not sure if it is a good idea to discount any of these three. In fact, they are each well worth taking a second look.

Urban Outfitters (URBN) is the Best of The Less

The teen-oriented retail sector has been struggling lately, and many shares in this sector have been trending down. The iconic Abercrombie & Fitch (NYSE:ANF) and American Eagle (AEO) have both been experiencing soft same-store sales and unflattering quarterly results. Aeropostale (NYSE:ARO) has been hit even harder, with its stock continuing to set new marks for its one-year low. The industry as a whole is feeling the effects of high lingering teen unemployment and the "Great Recession" that has seemingly altered consumer spending habits for good. Despite all this doom and gloom, some opportunity has emerged. Urban Outfitters might be just the sort of opportunity that can provide sideline investors a good entry point for realizing a nice payoff in the future.

Urban Outfitters Has Anthropologie and Free People

Urban Outfitters might be struggling, but its premium brand, Free People, experienced a fourth quarter same-store sales increase of 20% over the prior year. This is great news for the retailer that experienced a 9% drop in same-store sales of its own Urban Outfitters brand. The sales drop mirrors the industry-wide trend, but the performance of the Free People brand gives Urban Outfitters a reason to believe it can stand out from the rest of the crowd.

Urban Outfitters opened up 13 new Free People locations, to bring the total up to 90 at the close of 2013. Although the expansion is rather minor, any growth in this sector is a welcome departure from the shuttering of stores. The Free People brand has also helped expand Urban Outfitters' wholesale segment that experienced sales growth of about 20%. This segment now includes more than 1,000 stores and shops that are selling Free People products. This gives the Free People brand name even more visibility, and can translate into more sales in the 90 Free People stores as time goes on.

The Anthropologie brand is also doing quite well. Representing over 40% of Urban Outfitters' total sales, Anthropologie sales increased 10% over the prior year's fourth quarter. This performance helped push Urban Outfitters' fourth-quarter revenue to a record $906 million. The fact that this brand sells so much more than just clothes bodes well for Urban Outfitters in this sector that has yet to rebound.

The Big Picture

Urban Outfitters is in a great position to weather the retail depression storm. It has a clean balance sheet with no debt, plenty of cash and convertible assets (over $500 million), and it is diversified with more specialized retail niches. Although a turnaround is needed with the Urban Outfitters brand, Anthropologie sales and the expansion of the Free People brand have the potential to keep Urban Outfitters' momentum up. These specialty brands give it more than just a logo sewn on a relatively generic shirt. Urban Outfitters also has the growth in its wholesale segment, and is ahead of the game, with better-than-average online sales.

Despite better-than-average sector performance, the stock URBN ($35.34 on March 17th), has been edging closer to its 52-week low of $33.95 a share. There are very few stocks with positive earnings per share ($.59, a 5% increase over a year ago) that are so value-priced. The future of retail might seem pretty bleak, but any retraction by others plays right into Urban Outfitters' hands. While the S&P 500 has enjoyed an 18.62% 52-week climb, URBN has fallen 11.3% during that same period of time.

There was some positive growth in a sector where growth is rare, along with specialized products, a nice balance sheet and a price that has the meager sector performance already built in. Not a bad position for a teen retailer at this point and time.

Is Staples (SPLS) and Its 4.2% Dividend Flying Under the Radar?

Investors have kept Staples at arm's length, while the reasons for buying the stock just continue to grow. Staples has managed to weather the storm and bleak performance in the office supply sector by providing consistent revenues and profit. Profits continue to come in, with a healthy $212.4 million reported last quarter (ending February 1st), and $620.1 million brought in for the whole year. Staples certainly has more challenging times ahead, but the numbers it keeps putting up are worth taking a second glance.

Revenue is still sliding downward, but in 2013, it was only 6.3% less than the revenue generated two years ago in 2011. Staples still had over $23 billion in revenue for the year. Profit has gone down as well, but still came in at over $600 million last year, despite the challenging conditions of the marketplace. At least Staples is doing quite well with profitability, and should have no problem maintaining its nice dividend yield that currently stands at 4.2%.

Staples' Retraction Could Lead to Revenue Expansion

Staples has plans to close 225 stores by 2015. That might sound alarming to some, but given that nearly half of its total sales are currently generated online, that isn't necessarily cause for great alarm. Staples can only improve its bottom line and help sustain that nice dividend with this kind of move. Surprisingly, Staples has evolved to become the world's second-largest internet retailer, after Amazon (NASDAQ:AMZN). The difference in sales of the two online giants might be quite large, but Staples has the edge in profit ($620.1 million to $274.0 million for 2013), providing evidence that it is currently in a better position to perform. If closing all those stores looks like a big retreat, blame the internet and company guidance that knows the industry has to change.

Staples looks like it has figured out where to carve its niche. Online sales will continue to be a bigger part of its future, as buying office supplies continues to be more cost-effective, efficient and convenient when done online. Staples also plans on refreshing about 20% of its products as it moves beyond the perception that it just offers business products and services. Hits from Wal-Mart (NYSE:WMT), Costco (NASDAQ:COST) and others have not gone unnoticed. Staples needs to find additional revenue streams, but it seems poised for this challenge.

The Sum of All Parts

Closing the 225 stores will surely have some effect on revenue, but only time will tell if Staples can make up for it with an overhaul of its products and online sales. The stock, currently priced at $11.44 a share, is near its 52-week low of $11.14 a share. The $23.1 billion of revenue in 2013 is so far over the current market cap of $7.44 billion, and the enterprise value of $7.96 billion is too. Considering this low valuation and add in the 4.20% dividend yield, and things appear to be looking pretty bright.

If Staples continues to push online sales and figure out a concept that works best for its stores, the future could be well worth the investment now. Staples' current valuation probably already has an uncertain future already priced in, so any positive advances elsewhere could be enough to convince many sideline investors that the stock is worth the jump in.

Deep Sea Drilling Ensco (ESV) Offers Quite an Intelligent Buy

There is no end in sight for our dependence on oil. As much as we try to expand our options with alternative fuels, oil and gas are still destined to be a big part of our future. That's what makes offshore drilling such an important industry to consider. Most of the Earth is covered by water, making companies like Ensco such an integral part of the future availability of petroleum-based fuels. Ensco provides offshore drilling services to many of the behemoths of the oil and gas industry. Ensco currently owns and operates about 74 offshore rigs, and has revenues and profits that have been on the rise.

Ensco has had measurable increases in revenue and profit during the last couple of years, with $4.9 billion in revenue and $1.4 billion in profit in 2013 alone. Ensco has provided plenty of value to investors, even increasing stockholder equity from $10.9 billion at the end of 2011 to $12.8 billion at the end of last year. The company continues to enjoy quarterly revenue and earnings growth that is eclipsing last year. Ensco is continuing to expand its operations, with seven new rigs under construction. It is managing to pay for most of its capital improvements and new rigs out of its cash flow alone. The growth that should result from the additional rigs will only help improve Ensco's financial position. As if this brief summary isn't enough to interest many investors, maybe Ensco's dividend yield will.

Ensco Currently Enjoys a Low Valuation and Nice Dividend Yield

Ensco currently has a dividend yield of 6.2%, and it looks like it will be possible to sustain it. Ensco was able to increase its dividend by 50% in November of 2013. Even with this increase, the payout ratio is still a rather low 37%. So Ensco is in great position to sustain its dividend payout, and has proven to be able to grow it as well. Ensco is a member of the Top Quartile Dividend Growth Composite, representing dividend growth that ranks in the top 25% of the S&P 500 dividend growers. This dividend growth only complements the revenue growth, making Ensco even more of a value for a long play.

The stock itself has lost most of its steam. Shares are currently priced at $48.14, making them a bargain if you take into account the 52-week high of $64.14 a share. The stock also has experienced a 52-week change of -17.6%, which only seems to add more fuel for it to make a comeback. It is hard to understand how the shares can currently be re-establishing their 52-week low, but the downward trend only makes the dividend yield go up and the potential upside that much more.

Is Ensco Really That Safe?

Ensco's services are costly, and drilling in the world's oceans is often like walking through a minefield, with drillers waiting for the next big problem with one of their rigs. Although the industry is full of great risk, the valuation and dividend payout makes Ensco attractive as long as the cost of a barrel of oil remains quite high.

Ensco is also doing things the right way to ensure a safer future. By investing an estimated $1.4 billion in new construction, $570 million in rig enhancements and $300 million in upgrades and improvements, Ensco is making a case for investors who want to be in for the long haul. It is easy to spend money like this when the company has $10.7 billion in contract backlog to go along with a strong balance sheet.

Shares of Ensco are currently trading at 8.5 times earnings and 0.8 times to book value, which is well below the industry average figures of 14.2 and 1.3. The enterprise value of $15.84 billion is well above the market cap that currently stands at $11.24 billion. I might not know all the differences between an independent leg jackup and a semi-submersible rig, but a company that makes money, with a dividend that keeps increasing seems like a wise stock to own.

These stocks all have great potential, but of course, there are always going to be risks. In the case made here, the upside potential might reduce some of the risk. I happen to like all three of these issues, but the case that can be made for Ensco seems to put it at the top of this short list.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.