Coinstar (CSTR) is a stock that generates a lot of conversation between bulls and bears. The bear's case resolves around the company's dependency around DVD rentals which the bears see as a dying business model/obsolete technology. Their case can be summed by articles like these I, II. Noted short seller Jim Chanos has a short position in the stock. In this article, I will make the bull case for this cheap stock and how to play it.
"Coinstar provides automated retail solutions primarily in the United States, Canada, Puerto Rico, Ireland, and the United Kingdom. The company owns and operates self-service Redbox kiosks that enable consumers to rent or purchase movies and video games; and self-service coin-counting kiosks where consumers can convert their coin to cash, a gift card, or an E-certificate." (Business description from Yahoo Finance).
Seven reasons CSTR has substantial upside from $51 a share:
- The company has easily beat earnings estimates the last six quarters. The average beat over consensus the last four quarters has been north of 23%.
- The stock is priced at just over 9 times forward earnings a steep discount to its five year average (25.9).
- CSTR is selling at the bottom of its five year valuation range based on P/E, P/S and P/CF.
- The company more than tripled their operating cash flow from FY2009 to FY2011.
- Earnings are marching up nicely. Coinstar made $3.61 a share in FY2011 and is on track to make $4.89 a share in FY2012. Consensus among analysts is for $5.48 of EPS in FY2013 currently. Consensus earnings estimates for FY2012 and FY2013 have risen in the last two months.
- Revenue growth should come in at better than 20% in FY2012 and the stock sports a small five year projected PEG (.56).
- The median price target of the 11 analysts that cover the stock is $84 a share, more than 50% above the current stock price.
The way to play it: Buy the Jan 14 50 calls for around $10 a contract, less than 20% of the outlay of owning the stock. To me, this is a binary stock. If the bulls are right, the company will continue to grow revenues and earnings in line with projections. The stock price should march up to close to the median price target in this scenario and you will triple your money. If the bears are right, the company will rapidly lose market share to streaming services like Netflix (NFLX) and the stock will go into a slow but consistent decline. In this case, you lose your $10, but that is better than buying an equity that turns out to be a value trap.