RadioShack's Not Worthy

Since I'm always on the hunt for bargain basement stocks, I recently took a peek at RadioShack (NYSE:RSH), which is currently trading for under 10 times earnings. I can't remember the last time I visited a RadioShack store, but according to the company there is one within five minutes of nearly every consumer in the U.S.

While the company seems like a bargain, we have to remember to be selective. According to the Oracle of Omaha, the best strategy is to pretend one has a punch-card with boxes for just a few selective investment choices throughout one's lifetime. That way, investors research different companies and devote money to only their best ideas.

Investors are fortunate if they've stayed miles away from this stock; the shares have been on a downward spiral since February 2005, when they traded as high as $34.30. They now sit at $14.70, a seemingly enticing price to value investors, and far below the all-time high of near $80, reached at the peak of the dot-com bubble in late 2000. Have we stumbled upon a value or a value trap?

To help answer that question, it's useful to look at a number of metrics: past growth rates, profitability of its stores, how efficiently the company employs its assets, and where the stock currently trades. I usually look at performance over the past year to see where things stand, as well as a five-year average for a bigger picture.

Growth Rates

The putrid growth numbers speak for themselves. At least there's a modest dividend. Next.

Margins

Margins are also pretty low. However, it's common for a retailer to have low operating and net margins, and RadioShack stacks up well compared to the industry. But this deterioration is worrisome and confirms that the company has merchandise issues to overcome. For nearer-term margin details, check out Rich Smith's pre earnings Foolish Forecast from April.

Company Performance

Actually, these are better than I had initially thought, both in absolute terms and compared to the market. Return on assets, equity, and invested capital are all higher than both the industry and the S&P 500 for both the past year and the past five. However, the above calculations are based on net income; free cash flow is much lower, as the company spends to open, refurbish, and close stores to improve sales. Also, because of a rather high debt to total capitalization ratio of about 45%, return on invested capital is much lower than return on equity.

Multiples

For obvious reasons, RadioShack's valuation is quite low; it's currently trading at its lowest P/E in the past five years. Price to sales has also been beat down, much like other struggling retailers Pier 1 (NYSE:PIR) and Sharper Image (NASDAQ:SHRP). (For a comparison, check out my recent analysis on retail ratios.) Much like Motley Fool Income Investor pick Sara Lee (NYSE:SLE), this is a value trap that pays, with a 1.7% dividend yield.

Overall, things look pretty grim for RadioShack as it works to restructure its stores and revitalize sales. Don't just take my word for it; check out fellow Fool Alyce Lomax's recap of first-quarter earnings. The lesson to be learned here is that RadioShack's operating model is very undifferentiated and has no competitive advantage in selling wireless service or consumer electronics. It would be useful to determine why management has been unable to create a company with any of the key Foolish Investment characteristics.

Turnaround, bright eyes?
At some point, conditions are bound to improve, aren't they? If one subscribes to a reversion to the mean philosophy for companies, then RadioShack can be expected to rebound out of its doldrums at some point, either by its own doing or that of an outside party. If management can't fix itself, then an activist investor could move in to demand a shake-up -- be it a private equity group, individual investor, or hedge fund. However, the poor metrics identified above and lack of differentiation in a very competitive environment offer no compelling reason to own the stock. That doesn't mean one won't materialize in the future, but for now I'd rather spend my time investigating more compelling bricks-and-mortar retailers such as Best Buy (NYSE:BBY) or enter cyberspace with Amazon.com (NASDAQ:AMZN). This value trap still looks like a sinkhole.

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Fool contributor Ryan Fuhrmann has no financial interest in any company mentioned. Feel free to email him with feedback or to discuss the company further.