To start, I think it's important to disclose how I determine whether a stock is expensive or cheap. In that regard, the price-to-earnings (P/E) and the price-to-free-cash-flow (P/FCF) ratios are the two primary metrics I consider. The P/E measures how much you pay per dollar of earnings per share. It can be influenced by changes in the market price of a stock, changes in net profits, and changes in shares outstanding.
Similarly, the P/FCF ratio measures how much you are paying per dollar of free cash flow. This metric can be influenced by changes in the market price, changes in shares outstanding, as well as factors that determine a company's free cash flow, including profits and capital expenditure needs.
Without further ado, here are the two cheapest stocks I own according to those metrics.
Image source: Getty Images.
1. Macy's
Famed department-store chain Macy's (M 1.62%) is trading at P/E and a P/FCF ratios of 5.6 and 3.8, respectively. At the pandemic's onset, the company was devastated when it temporarily closed its doors to in-person shoppers. The stock cratered as a result. That said, it is recovering very well, and the stock is up 70% in the past year.
Management can be commended for pivoting quickly and early in the pandemic, emphasizing its digital channel. Before the outbreak, it was hesitant to accelerate this strategy because it would cannibalize sales from brick-and-mortar locations. Like many other businesses, Macy's prefers customers to shop in-store rather than online. Purchases made in-store are more profitable because Macy's does not bear the expense of shipping the item to people's homes. What's more, folks are more likely to make an impulse purchase while shopping in person.
Nevertheless, Macy's had no choice but to emphasize the digital business when its stores were closed for in-person shopping, and the move is paying off. In its most recent quarter, net sales were more than $300 million higher than in the same quarter in 2019.
NYSE: M
Key Data Points
During the pandemic, management has also cut costs significantly. In 2021, Macy's earnings per share (EPS) were $4.55, more than double the $1.81 it earned in 2019 -- and it was the second-highest in its past decade, topped only by the $5.10 it delivered in 2018.
2. Tilly's
Tilly's (TLYS +5.37%), a specialty retailer for pre-teens to young adults, is trading at a P/E and P/FCF of 6.6 and 7.7, respectively. Like Macy's, Tilly's was forced to shut its stores to in-person shopping at the pandemic's onset. The company has about 240 locations. However, unlike Macy's, its recovery has more to do with management's skill in securing inventory during times of widespread shortages.
The accomplishment has allowed Tilly's the strategic advantage of having items in stock when competitors are in short supply. As a result, Tilly's is having no trouble selling its products at higher profits than at any time in its history. Indeed, management gave credit to these factors when it updated investors on its holiday sales results on Jan. 10. Ed Thomas, President and Chief Executive Officer, commented:
Based on our strong 2021 holiday period results, we expect to report our most profitable fourth quarter since becoming a public company and our most profitable full fiscal year on record. We believe these results were driven by favorable market conditions and a compelling merchandise assortment.
When will I sell?
Generally, I plan on holding these two cheap stocks as long as the valuation metrics are below double digits. If their values rise above those levels, I will evaluate the reasons behind the increase and determine if it's an excellent time to sell. Until then, I will gladly hold these retail stocks that have been good to my portfolio returns so far.
