The past six months have been a windfall for Genesco’s shareholders. The company’s stock price has jumped 44.2%, hitting $39.50 per share. This was partly due to its solid quarterly results, and the run-up might have investors contemplating their next move.

Is now the time to buy Genesco, or should you be careful about including it in your portfolio? Get the full breakdown from our expert analysts, it’s free.

Why Do We Think Genesco Will Underperform?

We’re happy investors have made money, but we’re cautious about Genesco. Here are three reasons why GCO doesn’t excite us, plus one stock we’d rather own.

1. Same-Store Sales Falling Behind Peers

We can better understand Consumer Discretionary - Footwear companies by analyzing their same-store sales. This metric measures the change in sales at brick-and-mortar locations that have existed for at least a year, giving visibility into Genesco’s underlying demand characteristics.

Over the last two years, Genesco’s same-store sales averaged 4.6% year-on-year growth. This performance was underwhelming and suggests it might have to change its strategy or pricing, which can disrupt operations.

2. New Investments Fail to Bear Fruit as ROIC Declines

We like to invest in businesses with high returns, but the trend in a company’s ROIC can also be an early indicator of future business quality.

Unfortunately, Genesco’s ROIC has decreased over the last few years. Paired with its already low returns, these declines suggest its profitable growth opportunities are few and far between.

3. High Debt Levels Increase Risk

As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.

Genesco’s $575.7 million of debt exceeds the $27.12 million of cash on its balance sheet. Furthermore, its 7× net-debt-to-EBITDA ratio (based on its EBITDA of $83.8 million over the last 12 months) shows the company is overleveraged.

At this level of debt, incremental borrowing becomes increasingly expensive and credit agencies could downgrade the company’s rating if profitability falls. Genesco could also be backed into a corner if the market turns unexpectedly – a situation we seek to avoid as investors in high-quality companies.

We hope Genesco can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.

Final Judgment

Genesco doesn’t pass our quality test. After the recent rally, the stock trades at 14.7× forward P/E (or $39.50 per share). This valuation multiple is fair, but we don’t have much confidence in the company. There are better investments elsewhere. We’d suggest looking at the Amazon and PayPal of Latin America.

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