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3 Stocks at Multi-Year Lows, Only 1 Is a Buy

Dollarama (TSX:DOL), Cineplex (TSX:CGX), and Sleep Country Canada (TSX:ZZZ) are three former “growth” market darlings that have experienced a massive fall from glory over the past few years, with shares of each company falling by 45%, 55%, and 54%, respectively from their all-time highs.

Now that each company’s stock has gotten slashed in half, it’s likely that the names have gained the attention of value investors who are scavenging among the wreckage to see if there’s an opportunity to get quality merchandise at a discount. Despite the massive falls endured by each firm, I only believe one is worthy of your investment dollars.

Over the past three years, I warned investors that each company was at high risk of experiencing a potentially violent “reset” of what I believed were unrealistic growth expectations at the time.

When it came to Cineplex, I published multiple pieces advising investors to sell the stock over concerns that I thought were written on the wall. As for Dollarama, I highlighted the rise in competition and one major threat to the company’s unrealistically high growth expectations as the stock continued surging toward all-time highs. And finally, for Sleep Country, I highlighted digital disruption, a poor in-store experience, and a lack of catalysts as reasons to hit the snooze button on the stock.

Now, my intention of this piece is not to brag about my timely sell recommendations.

Instead, I want to show investors the value of forensic analyses of the companies in this piece, so that they can figure out when to sell a growth stock before the Street discovers it’s run out of steam, and when to buy an overly battered growth stock that may still have gas left in the tank.

Once a surprising earnings miss is reported, it’s already too late. The stock under question will plunge well before it experiences any multiple expansion, as the stock market is always forward-looking.

When it comes to high-multiple growth stocks, you need to ask yourself if technological disruption or a rise in competition could come into play.

In the case of Sleep Country, Cineplex, and Dollarama, the answer to that question was a definite “yes” to both questions. Whenever an industry disruptor comes into play, it should be treated as a potential warning that you should do homework or risk having your portfolio be disrupted.

On the flip side, understanding the competitive landscape of a niche industry can also allow you to profit should the carnage be overdone to a battered stock under question.

Stocks typically become cheap for very good reasons, and just because a stock is cheap doesn’t mean it could get much cheaper.

The transformation of a growth stock into a value stock can involve violent downward movements in stock price. So, although each stock is cheap based on historical average valuation metrics, it’s important to pay attention to the reasons why each stock is poised to face tempered growth expectations –and whether or not the company has a chance to return to its former glory instead of focusing on how far a stock has fallen from its high.

Let’s start with two stocks that I still think are a “sell” and end with one that could realistically emerge from its funk.

Sleep Country and Cineplex have both been disrupted by the rise of tech, with each firm falling at the hands of e-commerce and streaming, respectively. Sleep Country has decided to acquire the disruptor (buying Endy) and sleep on it. Cineplex is trying to dilute its “disrupted” box office segment by branching off into generic entertainment.

Both companies are “investing” their pains away, either through organic or inorganic investment. Both moves, I believe, will not do much for either stock over the near- to medium-term, as it will take many years to alleviate the pressures placed on each firm’s business models.

As for Dollarama, e-commerce has been a pain, but brick-and-mortar competition has also been a thorn in the side of the company. Management has been slow to adapt, but more recently, they’re shown a willingness to get creative. Should the company reinvent itself, both digitally and physically, the stock could pole-vault over the now lowered bar.

Stay hungry. Stay Foolish.

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Fool contributor Joey Frenette has no position in any of the stocks mentioned.

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