In this video, Motley Fool analyst Austin Smith talks about the dangers of falling into a value trap. In his case, it's buying shares of Supervalu (NYSE: SVU ) , with a hope for the company's turnaround. This can be the same for other companies, like Best Buy Co. (NYSE: BBY ) , hhgregg (NYSE: HGG ) , Barnes & Noble (NYSE: BKS ) , and, to some degree, J.C. Penney Company (NYSE: JCP ) and Sears (NASDAQ: SHLD ) .
By seeing the cheap stock price, he overlooked the fact that the company had too much debt, and they were operating in a deteriorating environment because of competition (Walmart and Walgreen). Instead, he stacked up on "ifs" -- if they pay down their debt, and if they achieve these sorts of returns, etc., they could turn around in a big way.
When you start stacking up a chain of "if" theses, it's a warning flag for you, and not a great way for long-term investment.
As Austin mentioned in this video, J.C. Penney is one of the companies that has similarities to Supervalu for being a potential value trap; it has been a train wreck, whose comeback always seems just around the next earnings corner. But people are beginning to doubt if CEO Ron Johnson can weave the same magic that he did at Apple. For investors wondering whether J.C. Penney is a buy today, you're invited to claim a copy of The Motley Fool's new must-read report on the company. Learn everything you need to know about JCP's turnaround – or lack thereof – and, as an added bonus, you'll receive a full year of expert guidance and updates as key news develops. Simply click here now for instant access.