Circuit City (NYSE:CC) hasn't gotten a lot of Foolish love this year. Back in September, its second-quarter results topped analyst forecasts, but my Foolish colleague Stephen Simpson still questioned the company's ability to stand toe-to-toe with Motley Fool Stock Advisor pick Best Buy (NYSE:BBY). And in March, when Circuit City refused another buyout offer at $17 per share, longtime Fool contributor Rick Munarriz wondered whether the company was fooling itself into thinking it was in Best Buy's league.

Since there's seemingly no way that Circuit City can absorb the blows from Best Buy, I guess it's time to throw in the towel, right?

Not so fast.

In 1974, an epic boxing battle took place when the old king of the ring, 32-year-old Muhammad Ali, clashed with the younger and more powerful George Foreman -- a fighter whom many considered unbeatable at the time. In a legendary fight, Ali wore down his stronger opponent by employing a strategy known as the Rope-A-Dope. Ali slowly wore Foreman down by leaning against the ropes and absorbing the younger fighter's hits. Then, in the eighth round, Ali went on the offensive against his now-exhausted opponent, defeating the formerly unbeaten Foreman to reclaim the heavyweight crown.

Now, before you jump to conclusions, I'm not calling Circuit City the next Ali. But the Rope-A-Dope strategy of wearing down your opponent and waiting for an opportunity to strike does have its uses outside the ring. And Circuit City's ability to hang through the tough times appears to be paying off for shareholders who stuck around with it.

On the rebound
Since bottoming out at around $5 in March of 2003, Circuit City's stock has stormed back with a gain of more than 300%. Best Buy hasn't been a slouch, with its stock higher by around 125% over the same period. It's clear, however, which of the two would have been the better investment over the past few years.

So how did Circuit City go from chump to champ? Rick hinted at one potential ingredient for the company's exceptional stock performance over the past several quarters -- Wall Street was already anticipating the worst. This past March, Rick indicated that the company's price-to-sales ratio of 0.33 was significantly lower than Best Buy's 0.84 ratio at the time. Circuit City's relative cheapness and weaker profit margins suggested that it was lagging behind Best Buy on an operational level. But because of growing sales and improved efficiencies, Circuit City has been able to claw its way back up.

The comeback continues
The company is doing a solid job of growing sales, particularly in light of flat customer traffic. In the third quarter, it achieved net revenues of $2.9 billion, a 14.7% increase year over year. The primary driver of this growth was a 13.3% increase in comparable same-store sales, which has less to do with increased customer traffic and more to do with an increase in average ticket prices. Through the first three quarters of fiscal 2005, sales are up 9.9%. These sales figures compare favorably with Best Buy's comps of just 3.3% and a top-line increase of 10.6% in the third period. However, Circuit City's revenues have increased just 10.7% year to date.

The good news for Apple's (NASDAQ:AAPL) ever-popular iPod has also helped lift Circuit City's spirits. Management listed MP3 players, along with flat panel displays, laptop computers, and digital cameras, as the hot-selling items in recent months. But the key here is how Circuit City is roping consumers in. As customers migrate from brick-and-mortar stores to e-commerce, Circuit City has been able to get a piece of the action. In the third quarter, it saw Web-based sales increase 74% year over year.

Circuit City may be in the same weight class as Best Buy when it comes to sales growth, but how is it faring in efficiency? Its third-quarter gross margins of 24.2% are comparable to Best Buy's 24.4%. But on an operational level, Best Buy's selling, general, and administrative expenses as a percentage of revenues are 21.8% versus Circuit City's 23.3%. And in terms of earnings per share, Best Buy is still the king. Circuit City is on the rise, however, most recently earning $0.06 per share, and exceeding analyst expectations of $0.04. (Best Buy reeled in $0.28 per share, down from $0.30 in the year-ago period.)

Moreover, Circuit City expects the good times to keep rolling. It's projecting sales growth of 8% to 10%, up from its previous estimate of 5% to 8%. Since the company appears to be on the right track, CEO W. Alan McCollough probably thought this was a good time to announce retirement plans. His replacement? Former Best Buy executive Philip Schoonover.

Time to buy?
Despite a stock at Circuit City that now trades for more than $22, Wall Street sentiment remains decidedly negative. Circuit City, with a market cap of $4.1 billion, still trades at only 0.37 times its trailing-12-month net revenues of $11.2 billion, while Best Buy is currently trading at 0.75 times trailing-12-month revenues of $29.4 billion.

There are several reasons why Circuit City looks like the cheaper investment. While both companies carry favorable balance sheets -- Circuit City's market cap is valued at roughly 7.7 times cash and marketable securities on hand, with Best Buy at seven times -- the comparisons start to fall apart when looking at their respective cash flows. We don't have the most recent cash flow statements from either enterprise, but we do know that through the first half of the year, Best Buy actually produced $300 million in free cash flow, whereas Circuit City was cash flow-negative.

So is it time to put some money down on Circuit City? Like my Foolish colleagues, it's tough for me to say "yes," considering the dominant position that Best Buy currently holds. Its valuation, at 18 times next year's earnings estimates, sounds much more appealing than Circuit City's cash flow-negative operation, which is being valued at roughly 24 times estimated earnings.

But the Rope-A-Dope strategy has been working for Circuit City thus far. If this champ in the making can continue its sales and operational improvements, it might just score a knockout against Best Buy.

And in this corner, further Foolishness:

  • Best Buy misses analyst estimates.
  • Target (NYSE:TGT) and Wal-Mart (NYSE:WMT) are getting savvier in their online practices.
  • RadioShack's (NYSE:RSH) forecast isn't very merry this holiday season.

Fool contributor Jeremy MacNealy does not own shares in any of the companies mentioned.