Why Shares of Conn's Are Soaring Today

By Timothy Green Markets Fool.com

What happened

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Shares of consumer electronics and furniture retailer Conn's (NASDAQ: CONN) surged on Wednesday after the stock received an extremely optimistic analyst upgrade. At 1:15 p.m. EDT, shares of Conn's were up about 10%.

So what

The majority of Conn's sales are financed in-house, a business model that nearly imploded a few years ago when credit losses due to loose lending standards led to a steep decline in profitability. Conn's operating margin peaked in 2013 at 13.6%, falling to just 4% by 2016. The stock cratered once investors realized that the impressive growth of the past was thanks to unsustainable lending practices.

CONN data by YCharts.

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Conn's has been tightening up its credit business ever since, but this has led to big sales declines. During the fourth quarter of 2016, same-store sales slumped 8.9%. The credit business is still posting losses despite these efforts, with the segment reporting an pre-tax loss of $193 million in 2016. That's down from a loss of $119 million during 2015.

Despite these issues, analysts at KeyBanc believe the stock is undervalued. KeyBanc now rates Conn's at "overweight" with a price target of $22 per share, and it sees the stock going to $50 or $60 per share if everything goes right.

Image source: Conn's.

Now what

The analyst upgrade from KeyBanc lit a fire under shares of Conn's, but the company has yet to show any real signs of improvement. The retail business is profitable, but that can't be viewed in a vacuum. In 2016, credit segment losses completely wiped out retail segment profits. And while Conn's has been working to tighten lending standards, delinquency rates are still rising.

It will take quite a turnaround for KeyBanc to be proven right on Conn's. While investors are celebrating the upgrade, these price targets seem far too optimistic to me.

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Timothy Green has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.