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Crash: Is Reject Shop Ltd a buy after plunging 28% this month?

Discount retailer Reject Shop Ltd (ASX: TRS) has been hammered in the past two months since the release of its annual report, falling from ~$15 to $8 in that time. Today’s 12% plunge will only have accentuated the pain for shareholders, knocking shares back down to $7.66 in what has proven a volatile two years for the company.

What’s going on?

My guess would be that the chairman’s address to shareholders yesterday was the cause of concern, with virtually non-existent same store sales growth. Same-store sales grew 0.3% in the first quarter of 2017, compared with 6.1% last year.

Management attributed this to a number of problems with stock flow to stores, which resulted in both promotional and regular items having insufficient levels of stock. While not the worst problem to have, this along with generally mixed success with regards to strategic execution has apparently spooked the market. It might also suggest that the company has cut its stock levels too much, which could lead to costly restocking in the coming months.

Reject Shop shares are very thinly traded and it doesn’t take much negativity to send shares into a nosedive. Short sale interest in the company was a non-existent 0.18% as of 13 October, according to ASIC, so that’s unlikely to be a factor.

Is it a buy?

New store numbers have increased by 2% this year to 348, while management continues to work to improve product range in stores. A wider range should help to appeal to more customers (who can get more items at the one place), although it could add to the company’s stock and distribution headaches.

Management has noted that sales momentum is expected to improve in the second quarter as operating performance improves, and trading at 9x forecast earnings, Reject Shop is starting to get into value territory below $8.

Other companies like Dicker Data Ltd (ASX: DDR), which is a computer hardware wholesaler, have shown the success that can be had by combining scale with operational excellence. Nothing can change the thin margins, limited volumes, and vulnerability to foreign exchange movements that both companies suffer however, and investors should prepare themselves to both endure and take advantage of volatility in share prices.

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Motley Fool contributor Sean O'Neill has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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