Meme stocks continue to be the talk of the town. Investors looking to make a quick profit have piled into names such as Naked Brand Group (NASDAQ:NAKD) lately. Indeed, NAKD stock has taken investors on quite the ride this year.
The shares of the New Zealand-based retailer have still soared 400% for investors who bought them at the beginning of the year. The trade may still have some legs as social media-savvy retail investors continue to wait for what they hope will be a rally fueled by a short squeeze.
However, this stock is down dramatically from its late-January spike. Indeed, its 40% plunge over the last few weeks makes me question whether another squeeze could be on the horizon. Along with other meme stocks, Naked Brands has lost momentum. But is the party over?
First, let’s take a look at why this stock has done so poorly.
Declining Sales Make Naked’s Outlook Weak
The key reason why NAKD stock has underperformed in recent years is its pretty dismal revenue numbers. In fact, since 2017, the company’s sales have declined consistently, sinking more than 50%.
Its core business model is based on the sale and distribution of women’s swimwear, intimate clothing, and other apparel to consumers.
Accordingly, the company has correctly made a number of shifts towards e-commerce. To achieve this goal, it has been focused on a number of restructuring efforts. Namely, Naked has looked into divesting the retail assets of its flagship brand, Bendon. That move would allow Naked to focus its attention exclusively on “FOH Online,” the company’s wholly-owned e-commerce subsidiary.
The marketplace has changed for physical retailers, and it appears Naked is attempting to change with the times. As a result, investors who are bullish on the resurgence of brick-and-mortar retail might be betting on the wrong horse by investing in NAKD stock.
Indeed, if Naked successfully carries out its planned transition to a pure-play, technology-focused company, it won’t benefit at all from a resurgence of brick-and-mortar retail. The company’s e-commerce unit, however, has generated some impressive and profitable growth.
However, traditional brick-and-mortar retail still provides the lion’s share of the company’s revenues and gross profit. Its e-commerce sales are growing, but, for some time they probably won’t rise quick enough to raise Naked’s overall revenue growth.
Accordingly, prior to the stock’s parabolic move in late-January, investors had reasonably become very bearish on the name.
Now let’s take a look at the company’s financials.
Naked’s Financial Picture Reflect Its Business Challenges
Any company with Naked’s level of revenue growth is likely to experience a substantial deterioration of its financial picture.
According to the company’s most recent financial results, Naked revenue fell 18% year-over-year. That was mitigated somewhat by a gross profit increase of 1% over the same time frame. The company has been focused on cost-cutting and has done a good job of exiting unprofitable lines of business, shrinking its annual losses.
Naked’s e-commerce business expanded 16% YOY, partially offsetting the large losses of its brick-and-mortar retail and wholesale channels. The revenue of these channels declined 22% and 68% YOY, respectively. The company’s global operations were scaled down substantially, as it shifted much of its investments to its e-commerce business.
Investors have a retail-to-e-commerce turnaround story on their hands. Naked’s overall revenue is likely to continue to decline for some time as it shutters its physical locations. Those who invest in NAKD stock will therefore need to estimate the all-important growth of the company’s e-commerce business.
With its e-commerce business growing at a 20% annual rate, I don’t see how anyone can argue that the current valuation of NAKD stock is justified. The unit’s growth rate would have to be a number of times faster to justify such a valuation.
Valuation and the Bottom Line on NAKD Stock
Naked’s share price has been on a tear this year. Investors who bought this penny stock at the beginning of the year still have a paper gain of more than 400%.
However, this rapid rise leads many fundamental investors to an important question. Namely, how much am I paying to own this struggling company right now?
Naked’s market capitalization of roughly $500 million is close to ten times its trailing 12-month revenue of $55 million. In the case of a struggling retailer in the midst of a restructuring, that’s a hefty price tag.
The company’s market capitalization is factoring in a lot of growth. growth right now.
Unfortunately, shareholders should realize that unless the company is able to pull a big rabbit out of its hat and turn around its operations in dramatic fashion in the near-term, NAKD stock could soon tumble.
Additionally, given the company’s current sub-$1 share price, another reverse split could be on the horizon. Such a move, while necessary to maintain compliance with Nasdaq’s listing rules, is generally bearish for investors.
I think the valuation of NAKD stock is too high for investors to consider taking a bullish position in it. Although trading meme stocks is exciting, I think Naked’s valuation is out of line with its fundamentals right now.
On the date of publication, Chris MacDonald did not have (either directly or indirectly) any positions in the securities mentioned in this article.