Over the past six months, 1-800-FLOWERS’s stock price fell to $7.84. Shareholders have lost 16.1% of their capital, which is disappointing considering the S&P 500 has climbed by 12.8%. This was partly due to its softer quarterly results and may have investors wondering how to approach the situation.

Even though the stock has become cheaper, we're sitting this one out for now. Here are three reasons why we avoid FLWS and a stock we'd rather own.

Why Do We Think 1-800-FLOWERS Will Underperform?

Founded in 1976, 1-800-FLOWERS (NASDAQ:FLWS) is an online retailer of flowers, gifts, and gourmet foods, serving customers globally.

1. Long-Term Revenue Growth Disappoints

A company’s long-term sales performance signals its overall quality. Even a bad business can shine for one or two quarters, but a top-tier one grows for years. Regrettably, 1-800-FLOWERS’s sales grew at a sluggish 7.3% compounded annual growth rate over the last five years. This fell short of our benchmark for the consumer discretionary sector.

2. New Investments Fail to Bear Fruit as ROIC Declines

A company’s ROIC, or return on invested capital, shows how much operating profit it makes compared to the money it has raised (debt and equity).

We typically prefer to invest in companies with high returns because it means they have viable business models, but the trend in a company’s ROIC is often what surprises the market and moves the stock price. Unfortunately, 1-800-FLOWERS’s ROIC has decreased significantly 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

Debt is a tool that can boost company returns but presents risks if used irresponsibly. As long-term investors, we aim to avoid companies taking excessive advantage of this instrument because it could lead to insolvency.

1-800-FLOWERS’s $351 million of debt exceeds the $8.41 million of cash on its balance sheet. Furthermore, its 6x net-debt-to-EBITDA ratio (based on its EBITDA of $53.97 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. 1-800-FLOWERS 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 1-800-FLOWERS can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.

Final Judgment

We see the value of companies helping consumers, but in the case of 1-800-FLOWERS, we’re out. After the recent drawdown, the stock trades at 42.3x forward price-to-earnings (or $7.84 per share). This valuation tells us it’s a bit of a market darling with a lot of good news priced in - we think there are better investment opportunities out there. We’d recommend looking at The Trade Desk, the nucleus of digital advertising.

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