Shares of closeout retailer Big Lots are flying 3.5% higher in midday trading. And yet, so far as I can tell, the only reasons for the surge are an analyst upgrade to "buy" and a price target higher than what the shares fetch now.
Actually, make that an ill-considered upgrade to buy from an analyst you've probably never heard of before and a price target far higher than what the shares are worth.
Let's tackle those issues one at a time. If I told you that some guy you'd never heard of before thought you (not he) should buy shares of Big Lots, would you give that recommendation much weight? Then call me a skeptic, but I'm not sure an upgrade to "buy" from an analyst called Griffen Securities (the name cited in an upgrade report on flyonthewall.com today) deserves any particular weight, either.
Now for the price target. Big Lots costs $35 and change today, so a move to $45 suggests the potential for a 27% profit in the stock. I can see how that would grab investors' attention, sure. But that doesn't mean the target is realistic.
Consider: Priced at 12 times earnings, Big Lots' valuation already looks like a bit of a stretch relative to the 10% long-term growth estimates Wall Street analysts have assigned it. When you notice further that based on its cash flow statements, Big Lots is currently only generating about $0.85 in real cash profit for every $1 it claims to be "earning" under GAAP, the magnitude of the overvaluation only grows. And none of this is even factoring Big Lots' $110 million net debt load into the equation. With that number added in, I get an enterprise-value-to-free-cash-flow ratio of 14 -- which is still only growing at 10% a year.
I won't say Big Lots is the most overpriced stock on the market today, but 14 times free cash flow is hardly a cheap price to pay for a mere 10% grower. Therefore, even if you think the stock can hold on to its current valuation, it's hard to make a strong argument for (over)paying even more for the stock in 12 months' time.
Long story short: Griffen Securities' buy rating on Big Lots doesn't look much more realistic than the winged, eagle-headed lion of lore.
More Foolish insight
The retail space is in the midst of the biggest paradigm shift since mail order took off at the turn of last century. Only the most forward-looking and capable companies will survive, and they'll handsomely reward those investors who understand the landscape. You can read about the "3 Companies Ready to Rule Retail" in The Motley Fool's special report. Uncovering these top picks is free today; just click here to read more.
The article Griffen Upgrade Gives Big Lots Stock Wings originally appeared on Fool.com.
Fool contributor Rich Smith has no position in any stocks mentioned. The Motley Fool owns shares of Big Lots. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
Copyright © 1995 - 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.