Trans World Entertainment Corporation (NASDAQ:TWMC) is one of the largest specialty music and video retailers in the United States. The company has 350 stores and a retail web site. The majority of the company’s stores are mall-based and offer a wide selection of entertainment products such as CDs, DVDs, video games and related accessories. Trans World is a relatively small company with a market capitalization of only $144 million and an average daily volume of 49 thousand.

Trans World

Trans World sales decline

It is well known that sales of DVD’s and CD’s are on the decline, and Trans World Entertainment Corporation (NASDAQ:TWMC) is not avoiding the pain. The company has only just returned to profit after several years of collapsing sales, aggressive cost cutting and asset divestments. In particular, since 2008, Trans World has sold $325 million in assets, approximately 50 percent of its stores. However, these aggressive divestments have had the desired effect, and the company has bounced back from losing $0.07 per dollar of revenue back in 2008, to a profit margin of 7.9 percent at the end of fiscal 2013.

Along with rising margins, the company’s return on assets has moved to 10.7 percent, a respectable level. What’s more, thanks to the company’s drive to concentrate on its existing sales channels and not drive expansion through capital spending, Trans World Entertainment Corporation (NASDAQ:TWMC) is highly cash generative, producing $35.6 million in cash from operations during fiscal 2013, before adding in the effect of asset disposals, which boosted free cash flow to $61.3 million. This strong cash generation allowed to company to pay its first dividend in ten years. The payout cost a cumulative $14.9 million, easily covered by free cash flow and was worth $0.47 per share, a yield of 10.8 percent at current prices.

Having said all of that, what is really attractive about Trans World Entertainment Corporation (NASDAQ:TWMC) is its valuation. Currently Trans World trades below the value of its working capital, indicating that you can buy the bricks and mortar part of the business for free.

Trans World valuation

Trans World Entertainment Corporation (NASDAQ:TWMC)’s current assets are worth $258 million, current liabilities amount to $70.4 million and long-term liabilities are only add an additional $26 million. All in all, current assets cover total liabilities 2.7 times. Current assets excluding liabilities are worth $4.94 per share, 14 percent above the current stock price. Factoring in long-term assets, total book values stands at $5.57 per share, 28 percent away from current levels.

That said, caution should be taken here as a large amount of Trans World Entertainment Corporation (NASDAQ:TWMC)’s current assets are inventory: $151 million, to be exact. On the other hand, the company has $95 million in cash on its balance sheet, or $2.9 per share. Still, with the state of the music industry and many stores being forced to sell off their CDs and DVDs at lower than cost price just to shift the stock, I would be wary about Trans World’s high level of stock.

Nonetheless, based on its recover during the past few years the company looks to be getting back on track and the deep discount to net asset value appears highly attractive. All in all, Trans World could be a risk worth taking.