Are Crocs-Invested Waters Safe?
This innovative footwear maker is enjoying phenomenal growth. Some see a stock meteor in the making. Be careful.
If ever something looked like a walking, breathing fad, it's Crocs. And by fad we mean both as a fashion statement and as an investment that's destined for a short and, perhaps, not-so-sweet ride, à la Krispy Kreme Doughnuts.
Crocs' rise has been too tempting to ignore. The company keeps beating analysts' estimates. Its shares have soared six fold since the company went public last year. Despite the run-up in the shares, some analysts continue to urge investors to buy Crocs (symbol CROX) for the long term.
Crocs is a remarkable success story. Founded in 1999, the Colorado company developed Croslite, a material that molds to your feet and makes you feel as though you’re walking on Fig Newtons. Crocs shoes are produced by injection-molding machines programmed to turn out brightly colored, plastic-looking Swiss-style clogs with Swiss cheese holes.
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Because they're light, waterproof and porous, Crocs first took off as beach and boat wear. They were so comfortable that nurses and others professionals who spend lots of time on their feet started sporting them.
A few years ago, the shoes, against all reason, became a fashion statement and sales took off. For the quarter ended March 2006 (Crocs' first as a publicly traded company), the shoe maker posted sales of $45 million. Sales soared to $224 million for the most recently reported quarter, which ended last June, with everyone from Britney Spears to President Bush having been seen or photographed wearing sports Crocs.
Profits, meanwhile, have grown even faster, from 8 cents a share in that first quarter to 58 cents a share in the June period.
Off the mark. Analysts can't seem to peg the Crocs phenomenon accurately. In every quarter since it's been public, Crocs has topped the average analyst estimate. For the first quarter of 2006, analysts, on average, were off by 2 cents a share. In the latest quarter, they missed the mark by 14 cents a share.
For the 2007 third quarter, which ends September 30, Crocs "will be able to beat the number pretty easily," says Craig Hodges, co-manager of the Hodges fund, which holds the stock. The average analyst estimate for that quarter is 63 cents.
Of course all this has created lofty expectations among investors. The stock, which closed September 25 at $64.38, up 3.8% for the day, trades at 30 estimated 2007 earnings of $1.97 a share. By contrast, footwear and apparel giant Nike (NKE), at $58.45, sells for 19 times estimated earnings of $3.02 per share for the 12 months that end this November. (Crox sells at a more-modest 25 times estimated 2008 earnings of $2.52 per share.)
It's a good thing Crocs are buoyant because, at its current price, the stock is surfing on market foam. As recently as September 19, the stock fell as much as 4% on an intra-day basis following rumors that some Crocs-wearing youths had been hurt because the shoes got chewed up on escalators.
If you're still itching to buy, heed this word of caution: Heelys. The footwear company makes kids' shoes with little wheels that allow wearers to zip around by leaning back on their heels (talk about an accident waiting to happen). Heelys also went public last year. But when sales started to sputter, the stock (HLYS) started to drop. It closed at $7.80 on September 25, down from $38 in May. It doesn't take long for a gimmick stock to fall.
Meanwhile, short sellers are circling Crocs like vultures. Short sellers make money when a stock goes down, and at last count about 17% of Crocs shares had been sold short. Says analyst Jeff Mintz of Wedbush Morgan Securities: "A lot of shorts are looking it like a Krispy Kreme." Krispy Kreme (KKD) became the poster child for overhyped stocks when it couldn't grow fast enough to justify its inflated share price. The sugar high ended in 2004, when the stock crashed from $40 to $10. It closed September 25 at $3.81.
Not just ugly shoes. But Mintz makes a persuasive case that Crocs has legs. To start, the "classic style" of Crocs, which he refers to as "the ugly shoes," now account for just a quarter of sales. Crocs has been aggressively introducing new footwear that feature the same cushy Croslite insoles, but without the neon fashion statement. In fact, their sandals and Hush Puppy-like casual shoes would be welcome at high tea.
Mintz says he'd be worried if Crocs hadn't been introducing so many new styles -- 12 in the spring and 18 in the fall. Fund manager Hodges says he recently was with his twin daughters at a camp-out, where "I betcha 95% of the kids had Crocs. It amazed me all the different styles." Crocs' Mammoth style, basically a clog with a fuzzy lining, will be clogging retailers' shelves this holiday season.
Crocs is also introducing a line of Croslite-based clothing. Based on the shoes, you'd think a Crocs shirt would feel like a wet suit with holes. But the material is spun into a yarn and woven into fabrics that the company says are "lightweight versatile and breathable." Think Spandex.
Perhaps the biggest potential is overseas, where sales in Japan and Europe are particularly strong. Mintz says he was in London recently and saw a picture in the Daily Mail of Prince William's girlfriend, Kate Middleton, sporting a pair. "The rest of the world likes looking a little like us," says Hodges.
Still, at 30 times earnings, Crocs stock is in a precarious position. Sales growth won't have to decelerate much to knock holes in investor expectations. If the Crocs classic shoes suddenly go the way of Heelys (or Earth Shoes and jelly shoes), valuations could drop sharply, never mind that the classic line accounts for only 25% of sales. Mintz says Crocs must continue to expand its product line or risk a sales slowdown.
Hodges says he doesn't foresee the possibility of a slowdown before the middle of next summer, so Crocs may be safe until then. Still, if ever there was a stock that you might consider unloading at the first sign of a turn in fortune, it's a creature of fashion like Crocs.
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