Crocs Falls 36%: Time to Buy

Crocs (CROX), which makes the ultra-comfortable specialty footwear, reported earnings Wednesday after-hours (see conference call transcript). Many of you have heard of the shoes, and probably even own them. If you've owned the stock though, it has been nothing short of a dream run.

The company reported revenues of $256.3 million, up a whopping 130% from the previous year, and net income of $56.5 million, or 66 cents a share, up from $21.5 million, or 25 cents a share a year ago. On the face of it, the earnings look spectacular. But the revenue fell 2 million short of analyst estimates, and the stock fell 20% Wednesday evening in after-hours trading.

If you picked up shares thinking that was a bargain, today was a rude shock. Over 60 million shares were traded, which is 75% of the outstanding shares, and the stock ended the day, down a mind-boggling 36%.

The Bear Case

I took a deeper look at the numbers, and listened to the conference call. There was a hint of bad news on the call when the company said that inventory had gone up 200%, and the management quoted seasonality as one of the reasons for the shortfall in revenues.

This could be a serious issue, as we approach the winter season, since these shoes which have holes in them are ideally suited for warm weather. So a reasonable estimate would be that Crocs has to wait till sprint for most of the inventory to clear up. In addition to that, the company did have difficulty in filling shelves at some of its retail stores, which also caused a drag.

All these are reasons for concern, but lets look ahead to the forecast. The company projected 2007 earnings to be around $1.94 to $1.98 a share, on sales of $820 million to $830 million. Taking the average, this is 2 cents short of estimates. But is that reason enough to shave the company's market cap by 36%? I don't believe so, and here's why:

The Bull Case

Contrary to people's fears that the Crocs' shoes are fad, they are just catching on now. Skeptics of these shoes are forgetting what makes the shoes inherently different: they are not worn for style or to make a fashion statement. On the contrary, many people say they look weird and ugly, yet they love them for the comfort the shoes provide. Now how many of you could say that about the shoes you wear? Comparisons with Heely's (HLYS) shoes are absolutely baseless, just for the above mentioned reason.

Also, while Heely's had only one kind of shoe, Crocs has been constantly inventing new lines, for various activities such as fishing, sports and even golf. The company is investing a whole lot into new patents, new materials and new styles for all ages. Its latest line of shoes, Mammooth, is the #1 seller on Amazon.com already. With an average price of $39, these shoes are very affordable, for the kind of comfort they provide.

Margins

Looking at margins, Crocs' gross margins run at about 58% to 60% of sales, and after all expenses, the operating margins are 25% to 30%. I doubt there are many young, high-growth companies with those kind of margins.

International opportunity

Crocs has been highly aggressive in tapping into international markets, and Europe seems to be a great entry point. Consumers there love fashion, and when they get comfort with fashion, they will warm up to Crocs.

The only reason I stayed away from Crocs all this time was the wild run-up in stock price. Now that issue is settled, thanks to some real panic-selling. The company is estimated to earn $2.69 next year, and at the current stock price, it amounts to a P/E of 17.6.

For a company that expects to increase income by 35-40% year-over-year, I believe that is a low multiple. And unlike many of the high-flying stocks, there is no sign of a slowdown right now. I expect the company to beat Q4 estimates comfortably, and once spring sets in, you can see a frenzy for these shoes.

I bought some shares Wednesday at $60, and averaged down yesterday at $52. The stock is now trading at $47.74. It is good, in a way that the stock has had a pullback. From here on, expect to see more rational movements on the stock. There is no reason to sell this, until there are any tangible signs of saturation. Until then, I recommend to stay long, and stay rational.

Disclosure: Author has a long position in CROX

Comments

[borisb]

Prashantie, while i agree with your bullish optomism, you bought your shares a little too fast, and lost your ability to keep averaging down. your average price would be $56. you should add some in the 40s to bring you average down more, if there is room. the other issue that i wonder about is that CROX sells at higher Price to Sales and Price to Gross Profit ratios. the gross profit is rich 60%, but if that comes down sharply, todays seemily low '08 eps estimates=17x might become meaningless.
just because we were right to avoid the 60s/70s doesnt mean longs in the 40s/50s are in the bag. i think we will know in within 5 days. my average cost is about $50, but i feel like i rushed in to fast.

[voip]

I agree the over reaction has all the earmarks of a deliberate campaign- nothing in the ER warrants this kind of attack - All companies should have Croc s problems - victims of their own success - this is a great company that has a huge potential in croslite their proprietary material. its future is only delayed not broken

[PrashanthCherukuri]

I agree. Till now, no one has been able to point to one bad thing in the ER. Seasonality is an issue? They're kidding, even AAPL has seasonality.
They say it has only one product: Well Hansen has only monster, Microsoft was built on Windows and Intuitive surgical sells Da Vinci only.
Its just a short-attack, and a great value play here too.

[borisb]

Bullish comments coming from management THURS- to employees in Hawaii, saying the reaction has gone to far, next year looks good, backed by $50 million 1% share buyback. bullish comments from 2+ starmine analyst, bullish comments mr. klientop PJ. down day 2 may have been the low point. if so the bounce is $44- > $50+ +$6.40 or +14%. otherwise $43.80 isnt actually low point yet.

[borisb]

Thursday's PM mr. crammer cnbc mad money crocs downgrade lacked definitive justification and seemed whimsical.

[PrashanthCherukuri]

Cramer's show is purely for entertainment. He flip-flops a lot. I watch his show just to see what ticker symbol he's talkin about.
Keep the faith.

[By the SeaShore]

I read that they purposely ramped inventory up to free up manufacturing capabilities for new products thereby they still will be able to keep the shelves full of older product for the next few months. Sounds like good planning to me. Methinks this is a big kneejerk. user 119344 - you're just a jerk.

[DanielJacome]

No moat business: that is CROX. Go to walmart and target: generics are everywhere. We'd stay away from CROX long term. You'll make some money in the short term, but ultimately growth will halt and the CEO will flip it on an exit....

[mandiga]

Dont catch th dropping knife: picck up the knife from floor
Dont average down in falling market conditions: cost average works better with up ward momentum after a big fall
Dont walk on the broken leg: let the leg heal

Your analysis is good but I think we need to give more time before increasing the position.
I am not a pro but been in your shoes before.
By the way are you related to JAYA / Clearwater FL.?
Good Luck

[borisb]

i have gone over this and it looks like it will bounce once it finds a bottom. the analyst are sticking with the company, on the premise the international business is on course and that the favorable gross margins are lasting. at this point how much more selling before the upticks start? see the analyst might still be right but that doesnt mean it may take a while until the shares find a definative low point.

[ErnieMontague]

This is an interesting stock, and a good buy at $25. Crocs reminds me of Krispy Kreme Donuts. They went ballistic with new openings and great promise, until investors figured out that it was a company that sold DONUTS.

Crocs is a company that sells plastic shoes. In the next five years there will probably be five Chinese companies selling basically identical products for half the price.

[VegasBob]

Remember Boston Chicken from 10-15 years ago? I'll short CROX and watch it drop to pennies per share...

[VegasBob]

Remember Boston Chicken from 10-15 years ago? I'll short CROX and watch it drop to pennies per share...

[non1]

This stupid raghead is still wrong...now we are at $35. He wanted us to buy at $55 last week!!!

[non1]

This stupid raghead is still wrong...now we are at $35. He wanted us to buy at $55 last week!!!

[Fish GoneBad]

Crocs as of August 1, 2008 closed at $4.44. I remember looking at the shoes in Nordstroms last year and saying I found it hard to believe the Chinese had not flooded the market with these things. They are just injection molded garishly colored plastic. Was there EVER anything truly unique or valuable about them? Sadly no. As many people pointed out in posts before mine.

Clark Jenkins
FishGoneBad.com