When You Find a Great Stock, How Do You Play It?

Finding a terrific stock is always exciting. Deciding on the best way to play it is sometimes tougher. Why is that? There are always numerous ways to invest, ranging from plain vanilla buy and hold, to shorting of puts or purchase of call options. The first thing you need to do is establish what you think is a reasonable, and conservative, price target for the stock in question. Interface is the worldwide leader in modular carpeting for commercial and institutional markets. It holds about 35% of global market share. TILE posted all-time record results in 2017, 2018 and 2019. Pre-Covid Q1 profits represented the best first-quarter numbers in the firm's history. Covid-related factors knocked down sales and earnings since then. Current estimates for 2020 now center on earnings per share of $1.15 vs. 2019's $1.58. Value Line now sees TILE rebounding to profits of $1.35 per share next year, about 17.4% growth. The table below details the past decade's improvement across four major business metrics. The data is especially impressive as it includes 2020, which was seriously, and negatively, impacted by the virus. The remarkable thing is that solid, across-the-board growth is not now reflected in the share price. Today's buyers of TILE are getting way more value for way less money than 10-years ago. That sets up TILE for a major catch-up move once people warm up to the stock again. Pre-Covid, Interface typically commanded about 19.5-times earnings. As of Friday, with TILE at $8.82 the trailing price-to-earnings is 7.7-times and the forward multiple is just over 6.5 times TILE's 2021 estimate. Management prudently slashed its quarterly dividend from 6.5 cents to a penny early in the Covid crisis to weather the coming storm. It appears likely it will start bumping up that payment in the reasonable future now that the worst appears to be over. Just a partial reversion toward the mean valuation revision supports a 12-month target price north of $24. Hitting that very reasonable goal would deliver a stunning 175.5% gain. My projection is far from crazy. Interface fetched peak prices above $22 in five of the six years 2013 through 2018. Only 2018 saw EPS above $1.35. TILE's share price peak that year was $26.30. Yahoo Finance is in general agreement. It calls TILE undervalued while looking for almost $20 by this time next year. Hitting Yahoo's target price, which is a bit lower than mine, would still provide a greater than 126% 12-month return. Value Line rarely sees three to five year potential that equals what they forecast for TILE, due to its extremely cheap current quote. If you believe the numbers, owning shares outright should be an easy decision. You get unlimited upside plus a 0.45% current yield, which now exceeds the rate on almost every bank account in America. How else might you want to play TILE? Here is a very conservative way to nibble on TILE with even less risk than outright purchase. Simply sell some July 16, put options at $7.50 or $10.00 strike prices. Actual quotes for those based on TILE's end of Friday's prices are shown below. Worst-case forced purchase prices dropped to either $6.60 or $7.70 vs. the $8.82 trade inception share price. Margins of safety ran either 12.7% or 25.1%, depending on the strike price employed. Future share price action can never be guaranteed. We can know for sure though, that owning Interface at $6.60 would have been a winning position for all but a few months of the entire past decade. TILE spent most of those years hovering between $11 and $23. TILE never changed hands for less than $9.80 during the entire period from June of 2010 right through February of 2020. Maximum profits on those, or any other option sales always equals 100% of the premium collected up front. In the examples show that would equate to either $900 or $2300 per 1000-share (10-contract) commitment. That's pretty fabulous for options which only extend out to July 16, 2021 while offering significant downside protection. Risk-takers in the crowd might be even more tempted to buy some speculative call options on TILE. Owning calls means having the choice, but not the obligation, to buy the underlying shares for a preset price through the expiration date. The graphic that follows shows pricing for TILE's July 16, 2021 $5, $7.50 and $120 calls when the stock fetched $9.02 on Monday. Call buying is risky, because you need to see the stock go up simply to get even due to the cost of the time premium paid. If TILE unexpected does really badly through July 16, you could lose up to 100% of the money paid for the options. That outcome is unlikely, but not impossible. Deeper in-the-money calls cost more on an absolute basis, but less in term of time premium. The $5 strike only needed to overcome a 4.2% penalty. The $7.50s need a greater than 10% rise to break-even on expiration day. The $10 strike calls cost less to buy but require a 24.7% increase to fully recoup your call premium upon expiration. Knowing those facts, why do people like to buy calls? Call buying requires much less money per share than purchase of shares. Your maximum risk is limited to 100% of the premium paid up front. If things go well, potential gains can be enormous. The table below shows expiration day values for the three different strike price calls if TILE closes at $5, $10, $15 or $20. Red numbers represent 100% losses. If those occur you gambled and lost (like betting the money line on the NFL's Jets?). The two blue-shaded results are small gains based on the original call purchase prices. Green-hued results would be very respectable, to somewhat spectacular profits compared with the original call prices. July 2021 $10 calls purchase for $1.25 /share would be worth $10.00 if TILE closes at $20 on expiration day. That's a cool 700% profit. Even a move to $15 by then would be a 300% gain. So $5 calls would show a 13.6% gain at $5, a 127.3% profit with TILE at $10 and a 354.5% return on investment if TILE closes at $20. Readers can do the math themselves on the $7.50 strikes to be sure they understand the process. Call buying is not something I recommend often. I hate anything that could make 100% of my cash disappear. That said, in the right circumstances buying calls can be a fine way to take a flyer on what you think could be a great rise. There you have it. TILE looks poised for a large move higher. Buy some shares, sell some puts or consider a small dollar speculation in its July 2016 call options.

When You Find a Great Stock, How Do You Play It?

Let's look at TILE, which I see as an excellent opportunity, and look at various ways to invest in it.

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