99 Cents Only Stores (NYSE:NDN) stock popped 9.4% on Friday. Is it still a bargain?
99 Cents claims that it sells merchandise at or below 99.99 cents per item. By April, it operated 285 retail stores — 211 in California, 35 in Texas, 27 in Arizona and 12 in Nevada. On Friday, news emerged that Apollo Management planned to bid $22 to $24 per share for 99 Cents.
Has news of this bid taken all the upside opportunity out of investing in 99 Cents? Here are two reasons to consider an investment:
- Higher sales and profits, and a decent balance sheet. 99 Cents’ sales have grown at a 6.2% annual rate over the past five years, from $1.1 billion (2007) to $1.4 billion (2011), and its net income has increased at a 64.9% annual rate, from $10 million (2007) to $74 million (2011), yielding a slim 5% net margin. It has less than $1 million in debt, and its cash has grown at a 14.4% annual rate, from $118 million (2007) to $202 million (2011).
- 99 Cents is earning more than its cost of capital – and it’s improving. How so? It’s producing positive EVA momentum, which measures the change in “economic value added” (essentially, after-tax operating profit after deducting capital costs) divided by sales. In 2011, 99 Cents’ EVA momentum was 1%, based on 2010 revenue of $5.5 billion and EVA that improved from 2010′s $17 million to 2011′s $25 million, using a 7% weighted average cost of capital.
Here are two reasons to avoid it:
- High valuation. 99 Cents trades at a price/earnings-to-growth ratio of 1.65 (1.0 is considered fairly valued) — a P/E of 19.3 on earnings forecast to grow 11.7%, to $1.26, in fiscal 2013 — and is expected to grow 9.3% in fiscal 2012.
- Mediocre earnings reports. 99 Cents has been able to beat analysts’ expectations in only two of its past five earnings reports and has missed expectations by more than 7% in the last two reports.
If Apollo buys 99 Cents, the stock will rise another 5% to 10% from its current level. If not, it should plunge and stay in stock purgatory until it can accelerate its earnings growth.
Peter Cohan has no financial interest in the securities mentioned.