The 2 Biggest Comeback Stories of 2013

The surging stock market during the first half of this year pushed shares in many companies higher. While simply buying the S&P 500 index would have netted fine results, there were a few companies that saw their stocks explode higher as their turnaround stories played out.

Left for dead at the end of last year, these companies have put the pieces back together and given investors serious gains in the process. Here's a look at two of the most lucrative comeback stories so far this year.

The "death" of retail

After trading at $11.85 per share at the beginning of the year, consumer- electronics retailer Best Buy (NYSE: BBY  ) has surged over 200% to around $37 per share today.

The decline
Shares of Best Buy reached a high in the mid $40's in late 2010, before beginning a two-year collapse. The stock lost three-quarters of its value by the end of 2012. Much of the decline was a result of slowing revenue growth and falling margins, a condition brought on by intense competition from online retailers like Amazon.com.

Another factor occurred in May 2012 when then-CEO Brian Dunn resigned after an affair between Dunn and an employee was discovered. Founder Richard Schulze also resigned from the board after failing to follow up on the issue.

The comeback
A new CEO, Hubert Joly, was hired to turn around the ailing Best Buy. However, the dominating headline through the beginning of 2013 was Schulze's proposed buyout of the company. The deal fell through, but Best Buy shares had already surged into the $20's.

Joly introduced the Renew Blue strategy to cut costs and become more competitive. Thus far, Joly has eliminated a few hundred million dollars of annual expenses, balancing the new price-matching policy and more aggressive pricing in general.

Last quarter, the decline in same-store sales slowed as earnings beat analyst estimates, and with both Samsung and Microsoft mini-stores installed in hundreds of locations Best Buy is on track to be the premier destination for consumer electronics once again.

The future
While Joly still has plenty of work to do, Best Buy is making good progress. Online sales are growing, and with a website redesign under way, Joly is putting a lot of resources into growing the online business. Even after the 200+% run in the stock price, Best Buy is still inexpensive relative to its potential. A net income margin of 3% on $45 billion in annual sales yields earnings per share of nearly $4. Best Buy now trades at about 9.5 times this number, which very well could be severely pessimistic.

Remember Qwikster...
After selling in the low $90's at the beginning of the year and as low as $53 in 2012, shares of Netflix (NASDAQ: NFLX  ) have rocketed more than 480% from their 52-week low and are up 230% year-to-date.

The decline
After reaching a high of around $300 per share in July 2011, the stock began to nosedive. In that same month, Netflix restructured its pricing, upsetting many subscribers. The old $9.99 plan, which included DVD-rental and streaming, was split. This increased the total price of a combo-plan by about 60%. A few days later, the company announced that it was spitting its DVD business from its streaming business. The new DVD-only business, Qwikster, would have a separate queue from the streaming-only Netflix.

The Qwikster plans were quickly scrapped after outrage from customers, but the price increases remained. The stock plummeted, and then things got even worse. The price increases caused Netflix to lose about 800,000 subscribers in the third quarter, sending the stock even lower.

The comeback
People tend to project recent trends into the future, and the subscriber losses in 2011 are a case of exactly that. However, at $300 per share before the decline, Netflix was trading at a nosebleed valuation, meaning that much of the decline was actually warranted.

Since the crash, the DVD business has been slowly bleeding subscribers as more people shift to pure streaming. Streaming subscribers are being consistently added, and the company is aggressively expanding into international markets. The company is creating its own content, and shows such as House of Cards and Orange Is the New Black have received critical acclaim.

The future
Netflix's business model, paying for content to stream for a monthly fee, is not a great one. With competitors like Amazon Instant Video and Redbox Instant bidding for exclusive content, the price of licensing content from the owners will only get more expensive. Original content is the key, but with Netflix spending $100 million on developing House of Cards, for example, it's questionable if that investment will pay off.

My fear is that high spending on licensing and content development will never stop, pushing down margins and preventing the company from ever becoming meaningfully profitable. Netflix traded at 80 times earnings in its best year, 2011, and it seems to me that the market is ignoring the effects of competition.

The bottom line
Both Best Buy and Netflix shares have surged this year as the companies have overcome their respective issues. Best Buy is still inexpensive after its run, while Netflix is a far riskier bet.

While Netflix could grow into a global media giant, the business model doesn't really allow for outsize profits. If Netflix can control its costs as it develops exclusive content, then the company has a chance of developing a competitive advantage. But I have some serious doubts.

Americans reportedly spend nearly 34 hours a week watching television! With television viewing taking up almost as much time as the average work week, the potential for profits in the space is enormous. The Motley Fool's top experts have created a new free report titled "Will Netflix Own the Future of Television?" The report not only outlines where the future of television is heading, but offers top ideas for how to profit. To get your free report, just click here!


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