Athletic apparel company Skechers (NYSE:SKX) reported robust third-quarter numbers along a healthy fourth-quarter guide after the bell on Thursday, Oct. 18. SKX stock jumped in response. As of this writing, SKX stock is up more than 14%.

The writing was on the wall for this quarter to be great. You had a really beaten up and cheap stock heading into a report which trends and data suggested would be really good. That’s why I said buy SKX stock before the print.

Good numbers came in. SKX stock popped. Now what? Time to do some profit taking?

Maybe. But I don’t think the rally in SKX stock is over just yet. In fact, I think the rally may still be in its early stages. Skechers revenue growth trajectory remains healthy, while margins are starting to stabilize, and that combination implies robust profit growth over the next few years. SKX stock simply isn’t priced for this. If it were, the stock would be trading north of $40.

As such, I can’t blame anyone who wants to take some profits off the table after a big one-day jump in SKX stock. Indeed, you might see this stock cool off some due to this profit-taking dynamic. But, any dips should be viewed as buying opportunities. SKX stock remains materially undervalued, and this big post-earnings rally may just be the beginning of a much longer and bigger uptrend.

Skechers Q3 Report Affirms The Bull Thesis

Third-quarter numbers from Skechers were quite good. Overall, they affirm the bull thesis for Skechers as a company with stable growth potential in the global, mid-price sneaker market and a margin profile that will inevitably stabilize with scale.

Growth has never really been a concern for Skechers. This is a company that has consistently reported high single digit or better revenue growth over the past several years, led by double-digit growth in the international business. This quarter was more of the same. Net sales rose 8.5% year-over-year, while the international wholesale business grew by nearly 12% and the global retail business grew by nearly 11%. Clearly, SKX’s revenue growth trajectory remains healthy.

The problem that has plagued SKX over the past several quarters is margins. Specifically, stable high single digit or better revenue growth has been fueled by a significant uptick in marketing spend. Thus, as sales have gone up, the SG&A rate has gone up, too. In fact, the SG&A rate has often gone up faster than sales, and operating margins have suffered.

This dynamic played out again this quarter, but to a lesser extent, and the company appears to be at an inflection point where it will start growing sales and profits at the same rate. Gross margins have never been a problem. They have consistently trended higher over the past several quarters. The same thing happened this quarter: Gross margins rose 40 basis points. But, the SG&A rate rose only 70 basis points, so operating margins were relatively stable year-over-year, versus a huge drop last quarter.

The big thing here is that Skechers maintained solid high single-digit revenue growth in Q3 without dramatically increasing SG&A. This is likely because of the rising chunky sneaker trend, which is naturally increasing the relevance of Skechers’ products among the critical, trend-oriented youth demographic. As such, having social media influencers and fashion sites write about Skechers D’Lites and the chunky sneaker trend is acting as free marketing for Skechers. This free marketing won’t last forever, but the hope is that it increases Skechers product relevance enough to thrust Skechers back into the “cool” pile.

After all, this is exactly what happened with Adidas (OTCMKTS:ADDYY). This brand wasn’t hip or trendy a few years back. Then, the retro style emerged. Adidas capitalized on it, and within a few quarters, they became the hottest athletic apparel brand in the world. We could see a similar thing play out with Skechers and the chunky trend, albeit to a lesser extent.

Skechers Stock Remains Undervalued

Given strong third-quarter numbers, a healthy fourth-quarter guide and favorable fashion trends, I have high conviction in calling Skechers a stable revenue growth company with an improving margin profile.

Over the next several years, I easily see this company growing sales at a mid-single-digit-or-better rate, and becoming a $6 billion-plus revenue business within five years. During that stretch, gross margins should continue to improve thanks to an increase in brand relevance, while SG&A expenses should finally start to fall back from today’s elevated rates. That combination should drive healthy margin expansion. Healthy margin expansion on top of mid-single-digit-or-better revenue growth leads me to believe that $3.50 is a reasonable target earnings-per-share for Skechers within five years.

Let’s throw a market-average 16 forward multiple on that. You arrive at a four-year forward price target for SKX stock of $56. Discount that back by 10% per year. You arrive at a year-end price target for SKX stock of over $40.

As of this writing, SKX stock trades below $30. Thus, fundamentals imply huge upside from here.

Bottom Line on SKX Stock

Third quarter numbers and the fourth quarter guide were strong from Skechers, and coupled with favorable fashion trends, imply further upside for SKX stock. I wouldn’t be surprised to see this stock hit $40 within the next several months.

As of this writing, Luke Lango was long SKX.