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3 Stocks With Great Prospects in the Retail Bargain Bin

As stocks of traditional retailers continue to founder, investors are underappreciating these versatile brands.

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As Morningstar contributor Bryan Borzykowski pointed out in a recent article, many department store stocks are trading at fire-sale prices. With that as a backdrop, he explored this question: Is the industry currently home to some intriguing value plays, or will many brick-and-mortar retailers will succumb to the powerful threat of e-commerce players such as Amazon?

In the wake of steep sales declines, employee layoffs, and store closures, it's not surprising that many department store stocks are trading at depressed prices. Compared with historical levels of around 20 times earnings, they're currently trading at close to 10 times, Borzykowski pointed out. With and many other sectors close to historical highs--and the median stock in our coverage universe around 3% overvalued as measured by price/fair value--these stocks are some of the cheapest around.  

But senior analyst Bridget Weishaar thinks many department stores may be cheap for a reason. Although she does think that there will always be a place for retail stores because people enjoy shopping or need things at the last minute, she points out that department store traffic continues to decline every year and the trend doesn't seem to be reversing anytime soon. 

Instead of investing in department stores or captive brands that are sold at one retail location, Weishaar is more partial to buying versatile brands that can be sold in many different stores and through e-commerce channels as well. In this vein, the following are three undervalued stocks for investors to consider.

 Hanesbrands (HBI)
Rating: 5 stars
Uncertainty: Medium
Economic Moat: Narrow
Price/Fair Value: 0.59

Weishaar has a high degree of confidence in the defensibility of Hanesbrands' competitive position. She points to the following advantages, which are difficult for competitors to replicate, in her opinion: the firm's large owned and controlled supply chain, core product positioning in a space where brand is more important than price, and economies of scale achieved through a growing portfolio of synergistic brands. Weishaar assigns a narrow economic moat to Hanesbrands due to the strength of its intangible brand asset and manufacturing capabilities. She thinks Hanesbrands can increase its earnings per share by about 50% in the next five years on pricing premiums, further leverage of the global supply chain, and additional acquisitions synergistic to core products.

 PVH Corp (PVH)
Rating: 4 stars
Uncertainty: High
Economic Moat: Narrow
Price/Fair Value: 0.79

PVH is the manufacturer behind well-known brands such as Tommy Hilfiger, Calvin Klein, and Izod. Weishaar thinks PVH will continue to capitalize on its leading brand portfolio--the basis for her narrow moat thesis--and manage it strategically, culling brands with declining market demand and developing or acquiring those with true market potential. Following the acquisition of Warnaco in 2013, Weishaar thinks the company has successfully developed its brands into a distinctive array of lifestyle products for which customers are willing to pay a premium. She believes PVH can sustain a return on invested capital above its cost of capital and project an 11% compound annual rate of return on invested capital over the next five years versus our 8% cost of capital assumption.

 VF Corp (VFC)
Rating: 4 stars
Uncertainty: Medium
Economic Moat: Wide
Price/Fair Value: 0.75

VF Corp owns a large portfolio of brands including The North Face, Timberland, Vans, Lee, Wrangler, and Nautica. We believe that firm has achieved a wide moat rating given the pricing power it has attained through its intangible brand assets. Weishaar is optimistic about VF Corp’s prospects because she thinks the company is poised to take advantage of three market trends. First, she believes the outdoor and action sports market is a large and quickly growing opportunity, with activewear apparel now often worn in place of casual attire. Second, Weishaar expects VF to leverage its large global supply chain to support additional international sales; she thinks international markets can grow from 38% of revenue (2016) to just under 45% of sales in five years. Finally, Weishaar sees direct-to-consumer sales growing to 30% of sales from the current 28% penetration (2016), with e-commerce being the fastest-growing, most profitable channel.

Karen Wallace does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.