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Summary

  • With the stock still trading 10% below the high of last October, I don't believe there is any risk in taking a position here.
  • The stock trading on virtually no growth assumption, which presents an ideal time to buy an underdog - one which has a high price target of $96.
  • If management can deliver on both the top and bottom lines, while offering better-than-expected guidance, I might have to revise upward.

Investor in leading tool company Stanley Black & Decker (NYSE:SWK) have grown increasingly frustrated over the past couple of years. As with Caterpillar (NYSE:CAT), which has served a gauge on the U.S. housing/construction recovery, Stanley Black & Decker has been a notable underperformer. The stock lost 16% in 2013, compared to the 26% gains seen in the Dow Jones Industrial Average.

Remarkably, Stanley stock has disappointed, even amid noticeable gains from other housing stocks like retailers Lowe's (NYSE:LOW) and Home Depot (NYSE:HD). And when you factor in the gains seen from Louisiana Pacific (NYSE:LPX), which relies on housing starts for its revenue, Stanley investors were puzzled as why their company was not invited to the "house party."

It became clear, Stanley was not closely tied to the housing market, as initially believed. And when you couple this reality to the company's weak margins and an over-leveraged balance sheet, the stock's decline became understandable. But it's not time to give up. Industry experts believe that commercial construction activity should pick up in the second half of the year.

This also puts Stanley rivals like Snap-On (NYSE:SNA) in better position to capitalize on any potential recovery. But given the deficits Stanley management has been working to improve, Stanley is by far the better bet. And with the company due to report first-quarter earnings on Thursday, now is as good a time as any to wager on one of the best recovery plays on the market.

On Thursday, the Street will be looking for 97 cents in earnings per share, which will be down by 6% year-over-year. Last year, Stanley reported a profit of $1.03 per share. But I think this estimate, which is down 16 cents since the January quarter, is too conservative. While it does suggest that analysts have gotten more realistic about the company's ties to the housing recovery, I expect Stanley to beat this number by at least 2 cent. For the full year, analysts are projecting earnings of $5.38 per share, which would come in higher by 8% year-over-year.

In terms of revenue, the Street will be looking for $2.60 billion for the quarter, which represents a 5% year-over-year increase. Last year, Stanley posted revenues of $2.49 billion. For the year, revenue is expected to come in at $11.46 billion. Consider, over the past four quarters, Stanley has posted an average revenue increase of 3%, including a 17% jump in the January quarter. So Stanley has not had any issues with sales.

What has concerned investors, however, has been profitability. During that span, the company's income has increased by an average of less than 1%. This is including a 44% year-over-year surge in the third quarter. Accordingly, analysts appear undecided about how to value the company. On Thursday, management will need to convince analysts that the worst is over.

Aside from showing strong improvements in the company's security segment, where the company attributed roughly half of its full-year guidance decline, management has to show that it can get margins growing again. This will start with offering a status update on the company's ongoing debt-reduction program and offering strategies to synergize Stanley's $850 million acquisition of Infastech two years ago. Any significant improvement should push these shares higher.

For now, with the stock still trading 10% below the high of last October, I don't believe there is any risk in taking a position here. Consider, it's going to take several more quarters, if not an entire fiscal year, for value to be extracted from the Infastech deal. This assumes management will be able to extract value by bringing more efficiency to both companies.

From my vantage point, the stock trading on virtually no growth assumption, which presents an ideal time to buy an underdog - one which has a high price target of $96. And if management can deliver on both the top and bottom lines, while offering better-than-expected guidance, I might have to revise upward.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: The article has been written by Wall Street Playbook's tech sector analyst. Wall Street Playbook is not receiving compensation for it (other than from Seeking Alpha). Wall Street Playbook has no business relationship with any company whose stock is mentioned in this article.