Burlington Holdings - Pass On This Leveraged Private Equity Firm Led Public Offering

| About: Burlington Stores, (BURL)

Burlington Holdings (NYSE:BURL) made its public debut on Wednesday, October 2. Shares of the national off-price retailer of quality branded apparel ended their first day with gains of 47.1% at $25.01 per share.

While the offering has been extremely successful, I refrain from making an investment. The high valuation, both on EBITDA as well as equity multiples, and the high leverage employed by the firm make this a no go for me.

The Public Offering

Burlington Holdings is a national off-price retailer of quality brand apparel, operating 503 stores in 44 states, including internet offerings. The company offers every-day-lower-prices (EDLP), with prices off by some 60-70% from regular department and specialty store prices.

Key product offerings include women's wear apparel, menswear, youth apparel, baby products, footwear, home goods and coats, among others. In total, Burlington features merchandise from some 3,500 brands, with a focus on notational recognized brands.

Burlington Holdings sold 13.3 million shares for $17 apiece, thereby raising $226 million in gross proceeds. All shares were sold by the company, with no shares being offered by selling shareholders.

Burlington aimed to sell its shares to the public at $14-$16 per share. Some 19% of the total shares were offered in the public offering. At Wednesday's closing price of $25.01 per share, the firm is valued at $1.79 billion.

The major banks that brought the company public were J.P. Morgan (NYSE:JPM), Morgan Stanley (NYSE:MS), Bank of America/Merrill Lynch (NYSE:BAC), Wells Fargo (NYSE:WFC) and Goldman Sachs (NYSE:GS), among others.


Burlington has been founded back in 1972 and its 503 stores are quite large, averaging 80,000 square feet. The greater stores are a key competitive advantage to hold more categories and breadth of offerings within those categories.

The company's key strengths are the EDLP program, eliminating the need for sales, coupons or other loyalty programs. The attractive store economics, with average payback periods within three years, is another key strength. Since 2006 Burlington opened an average of 23 new stores per year.

For the year ending in February of 2013, Burlington Holdings generated annual revenues of $4.16 billion, up 7.2% on the year before. Net income of the firm came in at $25.3 million compared to a $6.2 million loss the year earlier.

Net profit margins are razor thin, which is predominantly the result of the capital structure employed by the firm. Note that the company spend $113.9 million on interest payments over the past year, taking a high toll on GAAP earnings. Large interest payments are the direct result of the high leverage being employed by the firm. Burlington was owned by private-equity firm Bain Capital which borrowed a lot of money on the company's account. Part of this cash was used to pay out a massive $636 million dividend to Bain Capital.

For the first six months of this year, Burlington generated revenues of $2.04 billion, up 9.8% on the year. Net losses narrowed slightly from $35.2 million to $30.6 million.

The company operates with $33.4 million in cash and equivalents, but holds $1.69 billion in total debt, for a net debt position of around $1.66 billion. Factoring in gross proceeds of $226 million from the public offering and Burlington will operate with a net debt position of around $1.45 billion.

Proceeds from the offering will be used to redeem $170.6 million in senior notes which carry 9.00 to 9.75% interest rates and are due in 2018. With the equity in the business being valued at $1.79 billion, the equity values the assets at around 0.4 times annual revenues and roughly 70 times last year's GAAP earnings.

Fortunately offering proceeds are used to retire extremely expensive debt, as the total offering proceeds could save the company nearly $20 million per annum in interest payments, a significant amount after positing GAAP earnings of around $25 million over the past year.

Perhaps more benefits could be achieved if the relative lower leverage could then be used to refinance existing debt at lower rates, saving many millions more which could boost the bottom line to over $50 million per annum. Even then, the valuation would be steep, around 35 times GAAP earnings.

Investment Thesis

As noted above, the offering of Burlington has been quite a success. The company priced the offering at $17 per share, some 13.3% above the midpoint of the preliminary offering range. Factoring in opening day returns of 47.1%, shares are trading an impressive 66.7% above the midpoint of the preliminary offering range.

Burlington ended August with 503 stores, after opening 3 stores in the first half of this year, marking 21 store openings over the past 12 months. While the pace of store openings slowed down, full year comparable store sales growth accelerated from 1.2% over the past year, to 5.5% over the past half year.

Note that gross margins fell to 37.5% over the past half year, down from 38.8% for the full year ending in February. Note that the first half of the year traditionally seems to be a bit weaker for Burlington.

Obviously the key risk to this offering is the high leverage employed. Other key risks are general macro-conditions and competition from other low-price competitors in both clothing and general apparel.

With the total enterprise value of $3.2 billion at the moment, the company is still valued at a rather rich 10 times adjusted EBITDA of $332 million over the past year, which is steep an off-retailer. Note that growth should be driven by new store openings, totaling some 25 per annum. The remainder of growth should come from comparable sales growth.

So these kind of valuations on both the enterprise and equity basis make me very wary to invest. The good thing is that while Bain is a seller in the offering, the company will still hold a 76% stake post-IPO, still aligning the interest with the new shareholders. Don't be surprised if Bain might sell more shares in the coming year, in an attempt to exit its investment.

Even though Burlington sees potential for a 1,000 stores in the future, it will take 40 years to achieve that store base at current openings rates. This assumes that absolute store openings remain stable. I understand that such a store base could be achieved much quicker assuming constant percentages of openings rates.

I am not at all convinced with Burlington and this offering. I find the offering too expensive at this point in time, while being dangerously high leveraged if a renewed economic slowdown might occur.

I will pass on this one.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.