Revlon As The Big Short Vs. 2 Strong Short Interest Stocks

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Revlon Bankruptcy and REV Stock Price

“Maybe it’s Maybelline.” No. It’s Revlon. And Revlon filed for Chapter 11 bankruptcy, citing multiple reasons, including competition, $3.4B in mounting debt, and supply chain disruptions that have made getting access to ingredients difficult. And the #NoMakeup movement didn’t help. Factoring in consumer spending is down amid high inflation and higher interest rates, it’s no wonder that Revlon’s long-term outlook appears bleak. As we look at consumer spending, May retail figures showcased a pullback of 0.3%, and according to Natalie Kotlyar, National Leader of BDO’s Retail & Consumer Products Industry Group:

“It looks like inflation has finally caught up to consumers, and they are starting to pull back on their spending…Given that the monthly retail sales data is not adjusted for inflation, this decline means that consumers are spending significantly less than we would expect to see at a normal inflation rate of 2-3%.”

But that’s not stopping the short interest. And while I typically shy away from stocks with poor quant ratings and fundamentals, especially those filing for bankruptcy, some stocks can file for Chapter 11 bankruptcy and rebound.

A perfect example is the former meme stock Hertz Global (HTZ), which made a comeback after its bankruptcy, and the stock is now trading above $17 per share. Will Revlon have a similar recovery? Bankruptcy, stocks that tend to have a sudden rebound, usually do so in two ways:

  1. Short Squeeze
  2. A Take-over bid or buyout by another company

While both events can occur, there are still risks involved. It’s key to do the appropriate due diligence when investing in a company post-bankruptcy because the creditors and bondholders typically will own the shares versus equity investors.

While Revlon’s recent announcement sparked substantial interest among investors as a top short squeeze stock candidate that helped pump up its share price, will its momentum continue? With the highest short interest among retail investors over the past week, supply and demand for shares is a consideration. A company’s current price may not paint an accurate picture, which is why there is added risk in determining its actual value. We’ll highlight the company’s characteristics based upon quant ratings and whether or not we believe the stock is a buy, hold, or sell.

Short Squeeze on Revlon: Buy or Not?

Revlon was trending and was the most active stock last Friday, with more than 146 million shares traded. While bankruptcy does not guarantee that a company is dead in the water, Revlon is damaged goods but can emerge from reorganization or perhaps the fuel from the Reddit world of investors.

Social media is prompting Revlon stock to trade up. Is it a good bet? That’s up for the investor to decide. Given its long-term outlook and pending bankruptcy proceedings that are complicated by a payment error of $900 million made by Citibank, our quant ratings rate it as a hold.

1. Revlon, Inc. (NYSE:REV)

  • Market Capitalization: $193.95M
  • Quant Rating: Hold
  • Quant Sector Ranking (as of 6/23): 127 out of 184
  • Quant Industry Ranking (as of 6/23): 17 out of 31

With its subsidiaries, the popular beauty brand Revlon Inc. (REV) develops and sells personal care products worldwide. Founded in 1932 in New York, NY, Revlon is among the oldest and well-known beauty brands globally, and there’s nothing pretty about its bearish trend. This stock has been trending down since the fourth quarter of 2019. Revlon’s debt, as showcased in the below chart, prompted its bankruptcy filing last week.

“Unless there is some major positive development, it is unlikely Revlon shareholders get any recovery under a Ch.11 reorganization plan because there is just too much debt that has priority for recovery. Revlon has over $3.5 billion in debt that would have priority, and that does not even include vendor claims, large bankruptcy legal fees, and DIP financing that all will have priority over shareholders” –WYCO Researcher writes.

Revlon Debt Structure Spreadsheet (Revlon’s Debt (Kroll))

Although the company comes at an attractive price of under $8 per share and a B+ valuation grade, what will be the cost to investors should they invest?

Revlon Factor Grades

Considering the factor grades below, which rate a stock’s investment characteristics on a relative basis and instantly compare them to its sector, the company is solid from a valuation stance. However, over the last 90 days, the stock has received down analyst revisions, and the company’s below Growth (C+), Profitability (C-), and Momentum (C-) grades are just average. Given the massive amount of debt that keeps mounting, uncertainty surrounding bankruptcy, and supply chain headwinds, this stock may be a hold recommendation, but I would not be willing to buy at this time.

Revlon Factor Grades (Seeking Alpha Premium)

Mittleman Brothers Investment Management holds approximately 3% of the Revlon stock, and cited supply chain issues as the main reason for the bankruptcy filing. Limited access to product ingredients required has been a big obstacle for Revlon. Should the supply chain issues be resolved, the company may regain footing.

“Part of their current problem is that their suppliers have been more likely to sell ingredients that are in very short supply to financially stronger competitors because the suppliers do not want to risk not being paid by Revlon. Under the Ch.11 bankruptcy code, vendors who now sell ingredients to Revlon will have priority administrative claims to get paid, which should make them much more willing to sell to Revlon” -WYCO Researcher.

While this optimism may sound like a reason for investors to consider buying the dip, and perhaps Revlon can overcome the setbacks, this hope may be equivalent to putting lipstick on a pig. I prefer to focus on two stocks with strong buy recommendations based on our quant ratings that possess high short interest.

Top 2 Stocks with High Short Interest Potential

Investing in stocks with short interest is risky, which is why many traders will not hold positions overnight but rather re-establish a new position each morning. Unlike Revlon, Seeking Alpha’s Strong Buy Stocks With Short Squeeze Potential have solid investment fundamentals. A deeper dive into the fundamentals of Revlon compared to our stock picks will showcase how their characteristics differ and the distinction between their short interest opportunities. Our two strong stock picks below both have an excellent market capitalization, with ARCH possessing 18% short interest and AN a 17% short interest. Let us dive in.

2. Arch Resources, Inc. (NYSE:ARCH)

  • Market Capitalization: $2.81B
  • Quant Rating: Strong Buy
  • Quant Sector Ranking (as of 6/23): 5 out of 249
  • Quant Industry Ranking (as of 6/23): 1 out of 16

The global energy crisis that has intensified following Russia’s invasion of Ukraine has benefited many energy companies, particularly those based in North America. Arch Resources, Inc. (ARCH), headquartered in St. Louis, Missouri, has strategic plans and operations to take advantage of exploding natural gas prices.

Arch produces and sells metallurgical coal, aka coking coal, from mines. Coking coal is a hot commodity used as blasting fuel in steel-making. Because the energy sector has reached peaks not seen since 2020, the rally has prompted an increase in short-bets against energy stocks.

Short Interest Energy Stocks (S&P Global Market Intelligence)

As showcased in the chart above, energy shorts traded on the major U.S. exchanges were at 3.49% in mid-February, an increase of almost 50 basis points from November and its peak since the end of December 2020. Economic slowdown reduces demand, which ultimately can affect coal produced domestically.

Although Arch possesses stellar quant grades, it does face some headwinds that short sellers find attractive. The U.S. government has reduced spending in an effort to tame inflation, and the infrastructure bill is on hold. Slowing demand for real estate which will affect demand for steel production may affect Arch. An overall slowdown in demand can hurt revenue and, ultimately, profits. It’s likely why ARCH was the most-shorted energy company and second most-shorted company in mid-February, according to S&P Global Market Intelligence data, with short interest at 35.4%.

Most Shorted Energy Stocks (S&P Global Market Intelligence)

Conversely, the resurgence of coal as a hot commodity is being supplemented as the supply of natural gas is being restricted by Russia to European countries. Nations like Germany have raised the alarm for an emergency gas plan, reopening several of their coal-fired plants. This bodes well for coal producers, and with ARCH already delivering record Q1 2022 results and A+ EBITDA that is outperforming its sector by nearly 7,000%, Arch Resources remains a stock to watch.

ARCH Growth & Profitability

Despite the energy sector starting to slow down, it has still been the top performer YTD. With mining stocks in high demand and the current supply-demand dynamics, ARCH is a strong buy worth investing in for the long term.

On top of stellar year-over-year EBITDA, Arch delivered record Q1 2022 results, with an EPS of $13.02 beating by $1.34 and revenue of $867.94M beating by $142.60M.

ARCH Growth Grade (Seeking Alpha Premium)

In addition to stellar growth, Arch maintains a stable cash flow and continued pricing strength to maintain its upward trend.

“Arch achieved a record gross margin in our core metallurgical segment. We paid more than $280 million of indebtedness and restored the balance sheet to a net debt-neutral position. Reached a $100 million or almost 80% of the targeted balance in our thermal mine reclamation fund, putting us well along the path towards completing this effort by July, and finally, announced a second-quarter dividend of more than $135 million or $8.11 per share payable in June.” – Paul A. Lang, Arch Resources President & CEO.

Not only does the company present a great balance sheet, but despite concerns that the energy sector may have peaked, Arch still comes at an excellent discount, despite being a stock on the most crowded shorts list.

Arch Valuation & Momentum

Arch Resources maintains solid valuation metrics and comes at a discount to its peers. With an A- overall grade and an A+ forward P/E of 2.04x, Arch is trading at a -75.65% discount to its sector peers. With Arch boosting coal production as Russia cuts off resources to the Eurozone, the price of raw materials and demand should serve as continued tailwinds for the stock, solidifying it as a strong buy.

ARCH Valuation Grade (Seeking Alpha Premium)

Arch maintains bullish momentum. Over the last year, the stock is +161%, outperforming its sector peers tremendously, as showcased in the below momentum grades.

ARCH Momentum Grade (Seeking Alpha Premium)

Quarterly, Arch has consistently outperformed its peers. With a more than 250% difference to the sector over six months and +380% over nine months, ARCH has incredible growth and profitability potential, substantiating our strong buy recommendation. Coupled with the macro backdrop, it is also why this is one of our top short interest stocks to consider.

3. AutoNation, Inc. (NYSE:AN)

AutoNation, Inc. (AN), through its subsidiaries, offers domestic, import, and luxury vehicles. As an automotive retailer, AN also provides financing and insurance to cover its vehicles. Although used cars have been in high demand and chip shortages are driving up prices, car sales are plummeting as consumer spending declines, with May seeing a fall of 20.9% in car sales compared to last year.

With auto sales seeing a decline and recession fears moving the markets, this sector may be ripe for a short squeeze. Although AutoNation has stellar quant grades, consider the macroeconomic factors involved. We picked AN as a stock perfect for a potential squeeze, given the continued low supply of vehicles; falling retail numbers; consumer fears around inflation; higher cost of products and services, leading retail buyers to choose staples and essentials over discretionary spending.

AutoNation Valuation & Momentum

Up +21% YTD, AutoNation comes at a great discount. With A- overall valuation grade and forward P/E of 4.82x, a -58.82% discount to the sector, this stock comes at a steal. But there may be a reason as we look to the future.

AutoNation Valuation Grade (Seeking Alpha Premium)

Short squeeze interest abounds despite AutoNation’s A+ momentum since the pandemic.

AutoNation Momentum Grade (Seeking Alpha Premium)

People are budgeting for staple goods as the economy begins to slow down. As rates increase, the cost of financing is also becoming steep. This could force people to assess whether they need a new car or would rather pay the price to repair current vehicles, causing a fall in auto sales. As the Fed plans to continue its hikes to tame inflation, it may induce a recession. But that doesn’t mean our stock pick isn’t strong.

AN Growth & Profitability

With record Q1 2022 results, AN’s EPS of $5.78 beat by $0.53, an increase of 103%, and revenue of $6.75B beat by more than 14% year-over-year., resulting in 11 analyst upward revisions.

“Success in the used car market, basically dictated by your ability to manufacture great quality, well priced desirable used cars, and this clearly covers key elements of the business, including efficient and effective reconditioning…we self-sourced 94% of our pre-owned vehicles that we acquired.” –Mike Manley, AutoNation CEO.

AutoNation EPS (Seeking Alpha Premium)

Additional drivers included new sales volumes and performance of their customer financial services, and sales penetration to increase margins while controlling expenses. While the company currently maintains A’a across its factor grades, showcasing strong profitability, including a total variable gross profit increase of 31% year-over-year, according to AutoNation’s EVP & CFO Joe Lower:

“Our after-sales business continues to gain momentum with after-sales gross profit increasing 19% on a year-over-year basis. Taken together, total gross profit increased 27%, compared to the prior year…The combination of strong growth in gross profit, strict cost discipline, and opportunistic share repurchase generated net income for the quarter of $362 million or $5.78 per share. EPS was up 107% versus prior year adjusted EPS of $2.79. This reflects our eight consecutive quarter of all-time high adjusted EPS.”

Despite AN beating earnings expectations and the shares being up over the last year, the company may be gearing up for volatility as recession concerns reach highs. All-in-all, our two strong short interest stocks are excellent buys.

We’ve selected these two stocks as a comparison to Revlon. Short interest is a poor indicator of stock price appreciation and depreciation. Our stocks’ short interest percentage since the end of last year has dropped substantially. Although our stocks’ percent of float is still on the high side, many stocks have high short interest yet still appreciate. We believe our stocks’ decline in short interest from last year to now is a positive sign that short interest for our two stock picks is dropping, making them great options if you’re seeking a strong buy short interest stock.

Conclusion

We’ve seen many stocks beaten up on the heels of rate increases, inflation, fear, and macroeconomic factors. Poor fundamentals also contribute to a company’s ratings, with many stocks possessing negative analyst ratings lagging in their sectors and performing poorly. We believe investors should avoid stocks with questionable performance, possessing severe declines YTD with falling momentum. As I wrote in The Next GameStop: Stocks With The Potential For a Sizeable Short Squeeze:

“In a world that wants to get rich quick, if you can identify a company that has a high level of short interest that you’re comfortable holding for a more extended period in anticipation of a squeeze, fantastic! We have the tools for you, especially if you’re comfortable with the risk. If you’re in with the short squeeze crowd, you better be ready to move quick!”

Consider using tools that help ensure your portfolio contains investments that increase over time.