As expected, the economy shrank in the first quarter, a recent U.S. Commerce Department report confirmed. However, the shrinkage is proving worse than originally thought, with revised GPD data showing a 2.9% annualized rate of contraction versus the 1.7% rate economists predicted.

#-ad_banner-#But this could actually be really good news for investors.

Indeed, the dismal first quarter has created a prime chance to get deals on high-quality stocks that are most vulnerable to economic downturns. And since unusually cold weather, not poor fundamentals, are widely considered mainly to blame for the bad first quarter, it may not be long until these beaten-down stocks rebound — especially since there are already signs the economy has been gaining steam in the second quarter.

One beaten-down stock I like a lot is off more than 30% this year and much of the carnage occurred after this national retailer reported a 14% decline in first-quarter profits. 

Like the overall economy, the firm did poorly mainly because of the severe winter, which clearly hurt business at 135 of its 331 locations. At these stores, first-quarter net sales dropped an average of 3.8%. But at the other 196 outlets where winter weather wasn’t an issue, first-quarter net sales rose almost 15%. Similarly, comps fell 13% at stores that were affected by the weather but climbed 8.5% at those that weren’t.

With the second quarter shaping up to be much brighter, North America’s leading supplier of hardwood flooring, Lumber Liquidators (NYSE: LL), could soon see its stock pop since its fortunes are closely tied to the overall economy. More importantly, shares now probably have well-above-average long-term upside.

Because LL’s products are commonly used in home improvements and new construction, the housing sector will have a major impact on the firm’s future performance. And fortunately, while not always as robust as one might like, housing is clearly making a comeback. 

In fact, the U.S. Commerce Department reported that new home sales surged to a two-year high in May to a seasonally adjusted annual rate of 504,000 units — well above economists’ 440,000-unit estimate. The S&P/Case-Shiller Home Price Index is up a solid 10.8% in the past year. 

Another housing-related trend that bodes well for Lumber Liquidators is that homeowners have been doing a lot of renovations in recent years. For instance, a survey by American Express (NYSE: AXP) earlier this year found that 73% of homeowners intended to undertake some type of home improvement in 2014 and that they planned to spend an average of $4,000.

Despite LL’s recent setback, investors should realize the firm has long led its industry in revenue and net income growth. During the past three years, for example, it has seen these metrics rise 17% and 43% per year, respectively, compared with industry averages of 5% and 16% a year. At about $1 billion, annual revenues are at an all-time high. And the firm’s annual net income of $75 million during the trailing 12 months is only slightly off 2013’s $77 million peak.

At $81 million, cash on hand is at an all-time high, too, and so are total current assets of $352 million. LL has no short- or long-term debt.

Thus, Lumber Liquidators looks a lot like a company with the market leadership, liquidity, and overall financial strength to keep growing rapidly, and that’s management’s plan. To enhance growth, the firm has expanded its product lines beyond domestic and exotic hardwood floorings to include things like engineered, bamboo, cork, laminate, and vinyl flooring. It also provides complementary supplies and accessories such as moldings, underlayments, adhesives, and tools.

Management projects a dramatic increase in store counts in coming years to as much as 600 from 340 currently. After opening 52 new stores in 2013, it expects to have 35 – 40 more opened by the end of this year and could reach its goal of 600 somewhere around 2020. All new locations, and eventually all existing stores, will conform to LL’s new “store of the future” format, which includes things like larger showrooms and more efficient warehouse design to accommodate and best display the expanded product offerings.

To control costs, LL uses a so-called direct-sourcing model that eliminates the middle-man by purchasing products directly from mills domestically and abroad to obtain the lowest-possible prices. Plus, the company has quality control teams at these mills to ensure it gets the best-quality materials, as well.

Because of these efforts, the cost of goods sold has risen substantially slower than revenues and operating margins have nearly tripled to 12.1% (from 4.2% in 2004). That’s significantly better than the typical competitor’s 10% operating margin.

Due to the gradual housing recovery and LL’s market leadership, analysts see the firm’s earnings climbing 18% a year to $6.15 a share during the next five years. This gives the stock 80% upside to more than $135 a share from the current $75, assuming a price-to-earnings (P/E) ratio of 22 as analysts project. Stock gains could be even greater if the P/E remains at 28, where it is now and typically has been for the past five years.

Risks to Consider: The flooring industry depends greatly on new construction and remodeling of existing homes. Substantial declines is these activities could easily shrink LL’s top and bottom lines and in turn, hurt its stock price. Also, LL has been accused of importing cheaply bought illegal lumber from Russia and other places, and its headquarters was even raided last September by authorities seeking evidence of such activities. However, no charges have been brought against the company.

Action to Take –> Weather was the main reason for Lumber Liquidators’ recent tumble, but the problem was temporary and the company is ready to resume solid growth. At this point, it’s oversold and represents an attractive buying opportunity. To get the best possible entry point, investors may want to delay buying until second-quarter results are out, since it’s possible the firm could disappoint once more due to residual effects of the first quarter’s bad weather.

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