"If trouble begins ... here's where you'll find it. If inventories begin rising faster than sales, or if accounts receivable start rising too quickly, you may want to rethink the logic of owning Logitech."

So ran my advice to Logitech (NASDAQ:LOGI) investors as we awaited the company's fiscal Q2 2009 earnings report Monday. As predicted, we soon saw the warning signs pop up like an on-the-fritz game of whack-a-mole:

  • Sales growth was a respectable 12% in Q2.
  • Meanwhile, inventories shot through the roof, up 23%.

Logitech makes it easy
Yet the plain truth of the matter is that you didn't need these warning signs to know that something's amiss at Logitech. The deterioration was so dramatic that it practically smacked you in the face (and has smacked the stock down 20%). For one thing, check that sales figure; 12% is only about two-thirds the pace of growth Logitech clocked in Q1. For the others, check:

  • Margins. The gross dropped 200 basis points year over year in Q2, while year-to-date, Logitech's doing about a 9.4% operating margin. Thus, it cedes the lead in this race to Plantronics (NYSE:PLT), although it still beats out Nam Tai (NYSE:NTE), Sony (NYSE:SNE), and Microsoft (NASDAQ:MSFT) in entertainment and peripherals.
  • Operating profits. They showed essentially no growth despite higher sales, while earnings per share, if you net out an impairment charge taken last year, actually declined.
  • Guidance. It got chopped. Logitech's now looking for about 7% sales growth in fiscal 2009 and 4% operating income growth. (And yet, management still expects gross margin of more than 34% on its sales this year.)

Aside from that, Mrs. Lincoln, how was the play?
OK. Admittedly, this has all been rather depressing so far. So let me end on a bright note. The news was bad, but no more so than we expected. More importantly, the news wasn't bad enough to justify the sell-off. Thanks to Wall Street's overreaction, Logitech now sells for a bargain-basement valuation -- around 8.5 times trailing free cash flow, against long-term growth projected at 16%.

My advice: Hold your nose and ignore Logitech's stinker of an earnings report. Bad news notwithstanding, at this price, the stock is simply too cheap not to own.

For further Foolishness on Logitech, read:

Fool contributor Rich Smith does not own shares of any company named above. The Motley Fool has a disclosure policy.

Nam Tai Electronics is a Motley Fool Global Gains recommendation. Microsoft is a Motley Fool Inside Value selection.