Why this Home Furnishing Company Is a Great Investment

In the current bullish market, the opportunity cost of holding underperforming stocks can be high. Home furnishing companies in particular are not regarded as attractive, due to their weak year-to-date performances. For example, although the Standard & Poor's 500 is up an impressive 26%, Ethan Allen Interiors is up only 14% since January. The situation is very different for La-Z-Boy , which has managed to double its stock price in the past ten months thanks to a successful turnaround. However, with a price-to-earnings ratio above 25, La-Z-Boy may not be cheap enough to be considered an attractive investment at the moment.

Long-forgotten Pier 1 Imports could be the hidden gem in the home furnishing sector. The company's recent emphasis on strategic marketing, e-commerce, execution improvements, and strong competitive advantages could help improve the top line considerably within the next two quarters. Buy-side analyst David Shapiro predicts 30% upside post-earnings. What makes Pier 1 Imports so special? What competitive advantages does the company enjoy, and how does it plan to win in home furnishing?

Source: Investor Relations, Pier 1 Imports

When a market sell-off becomes a great buying opportunity
Founded in California in 1962, the original Pier 1 catered to hippy baby boomers, featuring products like incense and love beads. The company soon specialized in direct importing, managing to grow its top line almost continuously since its foundation. It now operates over 1,000 stores in the U.S., Canada, and Mexico, selling more than 6,000 unique fashion-forward decor items.

Pier 1 experienced a strong sell-off on Sept. 19, after delivering disappointing results for the second quarter of 2013. According to Shapiro, this was due to a lack of marketing emphasis on value during a very promotional period and an over-emphasis on outdoor furniture. In the two weeks following the results, Pier 1 Imports lost almost 19% of its market capitalization.

The good news is that by lowering expectations for the next quarter, the sell-off may have created an interesting buying opportunity. Shapiro expects Pier 1 Imports to beat the Street consensus this coming quarter, due to meaningful improvements in execution, favorable weather conditions, and a better sequential backdrop. These factors, combined with growing market share and productivity gains, could justify an attractive valuation of 17.5 times earnings for the stock. That would take the fair value up to $32 per share, implying 53% upside in the best case scenario.

Not all stores are created equal
Regardless of the results for the next quarter, it's worth emphasizing that this company is building some long-term competitive advantages, making it an attractive long-term value play. First, the company owns 95% of the brands it sells.

Second, the company is balancing the importance of the e-commerce business unit with contribution from its physical stores. Just on the tech side, it plans to make multiple delivery options available online, add furniture personalization features, -- for example, the ability to choose color and fabric -- and invest $100 million to implement a new point-of-sales system, move its structure to the cloud, and acquire data-analysis capabilities.

Third, the company is trying to maximize efficiency by redesigning its merchandising organization, creating smaller teams, and keeping inventory as optimal as possible.

As a result, Pier 1 Imports enjoys an 11.7% operating margin, higher than Ethan Allen's 8.3% and La-Z Boy's 5.1%. Ethan Allen faces a particularly challenging situation. Its sales growth rate has decreased considerably after reaching its peak in 2011. The company also has strong exposure to the mature European market via its U.K. stores.

On the other hand, La-Z Boy may offer a more diversified business model. The company not only sells its products directly through its 70 company-owned stores, it also manufactures and sells upholstered furniture to third-party retailers and proprietary stores.

Final Foolish takeaway
Bottom line, Pier 1 Imports -- which owns most of the brands it sells -- is an interesting value-stock candidate, because management is clearly working on building long-term competitive advantages, from building an efficient e-commerce site to reorganizing its internal organization.

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The article Why this Home Furnishing Company Is a Great Investment originally appeared on Fool.com.

Adrian Campos has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.

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