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Coldwater's Still Lukewarm

Marc Lichtenfeld

Those of you who have read my retail rantings know that I put great emphasis on traffic and sales. But Coldwater Creek (CWTR - Cramer's Take - Stockpickr) proved that expense and inventory control are important as well.

Shares of Coldwater were surging nearly 16% Wednesday after the women's apparel retailer posted better-than-expected quarterly results. The company was able to exceed expectations with the right merchandise mix, a 9% reduction in inventory and growth in sales at both new and established stores.

That said, I still have found something to gripe about. One of my key performance measures -- traffic -- was down by a mid-single-digits percentage.

Coldwater deserves credit. The company delivered despite the slow traffic. Clearly, shoppers who walked into the stores liked what they saw. But the trick is to get more people in the door.

I wrote about a similar problem at P.F. Chang's (PFCB - Cramer's Take - Stockpickr) last year. Traffic was declining and I expected it to hurt the stock -- which it did.

These strong franchises aren't going to go out of business as a result of mid-single-digit traffic declines. But when investors place a premium on a stock because of its growth potential, lower traffic becomes a significant issue.

At Wednesday's recent price around $24, Coldwater trades at 39 times 2007 projected earnings of 61 cents a share and 1.4 times the consensus 27% growth rate. That's not egregiously expensive, although the forward price-to-earnings ratio is nearly double that of its peers.

The price-to-earnings-to-growth ratio also is ahead of the 1.3 times industry average. Does Coldwater deserve a 40% premium over Abercrombie & Fitch (ANF - Cramer's Take - Stockpickr)? I don't think so.

Given the valuation, it's apparent the stock is fairly priced and that any stumbles should send shares closer to the averages. I don't like to use the worn-out term "priced to perfection" too often, but it's applicable in this case.

Coldwater has plenty of supporters. Stanford Group's Marc Bettinger, who rates the stock a buy, appreciated the company's "strong performance in a still-difficult market for women's apparel and the resultant confidence in the resilience of the business model," he wrote after the earnings release.

I, too, was impressed by the report, and if traffic picks up, Coldwater's recent performance makes it a leading candidate to be a category killer. If it can perform as well as it did in a difficult environment, it should go gangbusters when skies are blue.

But a lot of people are calling for thunderclouds over consumers' heads. I am not necessarily one of them, although I do have to acknowledge that the possibility exists. Other than a best-case scenario where shoppers are buying with fervor, I doubt that Coldwater can live up to the lofty expectations. Traffic would have to go through the roof for there to be meaningful upside.

The more likely case is that the company will continue to execute in a difficult environment, earning respect from analysts and media alike, but not necessarily returns for shareholders.

Wait for traffic to return before dipping a toe into this water.