This Stock Wins “Best in Show”

Pet stocks are, well, a breed of their own.

They’re one-part consumer discretionary. After all, the choice to own a pet is discretionary… that is purely optional. They’re also one-part consumer staples. Just as people continue to eat food during difficult economic times, boosting food-related consumer staple stocks like Kraft (NASD: KRFT) and Dole (NYSE: DOLE), most owners continue to feed and care for their pets, even when their budgets are tight.

Yet, not all pet stocks are created equal. Let’s make a comparison between PetSmart (NASD: PETM) and PetMed Express (NASD: PETS)…

We all know about PetSmart. It’s the retailer that sells everything from cat litter and grooming services to veterinary and training services… even designer food and water bowls. PetMed Express may be a little less well known. It runs a much different business model, as a mail-order pet prescription provider.

Both stocks have the same price-to-earnings ratio of 17. But that’s where the similarities end.

PetMed Express has absolutely no debt, while PetSmart currently carries $526 million worth. What’s more, PetMed Express has a lower price-to-cash ratio than PetSmart, meaning it has a more robust cash reserve. 

These differences are likely attributable to the fact that PetSmart has much higher overhead costs (obviously, as it’s a brick-and-mortar operation).

Let’s see how the shares of each company have done during the past five years. 

 

You’ll see at times these stocks trend together, while at other times they diverge. Since early 2010 they’ve diverged quite a bit. 

PetMed Express lost 58% between early 2010 and late 2011. Meanwhile, PetSmart gained 58%.

Both of these trends are now reversing. This gives us a great opportunity to consider making a trade in both stocks. With PetSmart’s run higher ending, we’d want to be a short seller of this stock.

On the flip side, PetMed Express has started to turn up, warranting a purchase of these shares. For the trades to make sense, you’d want an equal dollar amount invested in each.

Cash is king, while debt and overhead are poison, in the economic Winter Season. This gives PetMed Express’ business model and balance sheet a clear advantage over PetSmart’s.

Watch for the former to move higher and the latter to drop lower over the course of this year.

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