College campuses are the crucibles for fads and trends.  If a product, especially an apparel product, gains sustained popularity on a college campus, it will surely generate long term profits to investors.  Take a look at Uggs.  Prior to the 2000s, they were a niche product little known to investors or most people older than 23.  College students, however, had been wearing Ugg boots long before they gained mainstream popularity.  In fact, U.S. college students studying abroad in Australia in the 1970s/1980s brought notoriety to the brand, and soon after, these then-novelty boots skyrocketed in popularity in high schools and college campuses.  Now, Uggs are a fashion mainstay, with long-term popularity and significant opportunities for growth.

Other products don’t fare so well.  Crocs were a hot commodity for a while for some investors, but they soon lost their appeal among college students.  After a period of rapid expansion, the company began closing some of its factories, and its stock price, which was once over $70.00, has now declined to $10.08 a share.

The long term popularity of a retail company’s product ultimately determines the success or failure of the company’s stock.  Companies that manufacture trends often outperform the market, and those that produce fad products often slide into failure.  Wall Street analysts cannot predict whether a product is going to be a fad or a trend; that is simply not reflected on balance sheets.  That’s where college students come in.

Steve Madden Ltd. (Nasdaq: SHOO) is a shoe retailer and wholesaler.  Traditionally a wholesaler, the company has recently been expanding its retail operations, and more and more stores are opening in malls across the country.  Financially, the company is sound.  The company has seen a steady increase in net sales since 2007; it had $431 million in sales in 2007, $457 million in 2008, and $503 million in 2009.  The company has no long term debt, and shareholders’ equity has risen, from $206 million in 2008 to $268 million in 2009.  Clearly, the company has the funds available for expansion. Its net income has expanded steadily over the last three years; it was $36 million in 2007, but it fell to $28 million in 2008 before rising to $50 million in 2009.      Analysts expect the company to grow over five years at an annual rate of 15.00 %.  Its PEG ratio (price/earnings divided by expected growth rate) is .94; a general rule-of-thumb is that companies with a PEG ratio below 1.00 are undervalued.  On paper, the company appears to be a strong buy.

At a closer look, however, Steve Madden’s outlook doesn’t appear so rosy.  Although the stock has outperformed the S&P 500 Footwear Index from 2004 to 2009, its growth in the retail sector will ultimately determine whether the stock will outperform the market or not.  Steve Madden is trying to expand in all retail markets, including men’s, women’s, and children’s.  It appears unlikely that Steve Madden will even have a chance of becoming a trend in the men’s and children’s market.  Steve Madden shoes, like Uggs, aren’t perceived as being manly.  Talk to any man in high school or college: chances are he thinks that Steve Madden is John’s cousin (one of my close friends asked me that when I mentioned the company).  Furthermore, Steve Madden’s shoes are too pricy for children.  Marketed as trendy, urban footwear, Steve Madden shoes are unlikely to appeal to the parent’s of young children as a substitute for Adidas and Sketchers.  Take my word, you probably won’t find children wearing Steve Madden shoes at the playground.

This doesn’t mean that Steve Madden has its staunch aficionados.  Many of my female friends buy them instead of Uggs.  I am confident that sales will grow in the women’s market, especially among women in their twenties.  On high schools and college campuses during the winter, Steve Madden shoes can already be seen extensively.  However, all women, even the ones who swear by Steve Madden, admit that Steve Madden shoes are pricey.  Hence, in order for net income to continue growing, margins will have to stay high (only the most affluent women can afford to buy more than one pair of Steve Madden shoes at a time).  Currently, that appears to be the case.  Profit margins for the past twelve months have averaged 11.16% and operating margins for the past twelve months have averaged 17.80%.

I went to visit a local Steve Madden store during the afternoon this past Memorial Day.  I wanted to talk to management to find out if the company had any particular strategy for increasing sales, and I hoped to find out how many consumers, on average,

visited the store and how many shoes were being sold on average daily.  To my surprise, I was the only person there.  Apparently, Steve Madden summer apparel isn’t a particularly hot product in the Chicago product, at least in 2010 (but of course that could change).  I spoke with the store’s manager, and she told me that the company is trying to expand sales across the board, with every demographic.  She sounded as if thecompany appeared desperate to find new customers, as if Steve Madden hadn’t reached the point to market to specific demographics.  The manager told me that the store was tracking how many people entered and purchased items each day, but she would not let me see these data.

This growth strategy seemed to be at odds with the marketing strategies displayed in the store.  Techno music was blasting in the background, the lights were dim, and vintage music videos were playing on two television screens behind the cashier.  I thought that Steve Madden was specifically trying to market itself to women, almost exclusively to younger women.  All of the shoes on display were meant for females.

No boots were on display, but several high end shoes were.  It was evident, though, that these shoes weren’t exactly flying off the shelves.  The dominant strategy for increasing sales appeared to be cutting prices quite sharply.

I was surprised after my visit.  The dearth of life in the store conflicted with the company’s robust balance sheet.  I felt that the company needed to change its marketing strategy, possibly by hiring a celebrity for a massive endorsement campaign.

After reading their company filings, analyzing the business, talking to my friends, and even visiting the store, I have concluded that Steve Madden has created quite a niche for itself in the high-end women’s apparel market. At just under 1.00 Peg, the company seems reasonably valued. The only problem I have is that analysts’ expectations for EPS growth are quite high at 15% per year for the next five years; this seems too optimistic.  The company would have to increase its sales across several demographics to achieve this level of growth, and from my visit to the store and conversations with my friends, this seems unlikely.  Moreover, the company is currently valued at nearly a billion dollars, and while they have a nice niche for themselves in the women’s high end apparel market, I don’t see them growing fast enough to keep up with analysts’ current expectations.  I would wait for a pullback before investing in this company.

This article was written by Rob Boling and the CollegeStockPicks.com staff