By Kris Tuttle
Broken brands, however, have offered some very good returns in the past. Part of the reason is the old joke that if you have something out of fashion today, just put it in your closet for a few years and take it out again when it’s back in style. For companies this only works if the management team knows how to revitalize the brand and drive the success down to the bottom line.
There have been some vivid broken brand turnarounds in the past. Stories like Keds and Converse come to mind. The biggest, though, was Tiffany (NYSE:TIF). It was so broken that management was able to do an MBO and the rest was truly historic. Tiffany re-emerged as a global powerhouse brand again and the wealth-creating was immense. That was a big one.
Recently a much smaller company, Liz Claiborne (LIZ), showed up on our radar screen. It certainly constitutes a broken brand from a stock perspective (see chart below, click to enlarge). After a very long run, the shares are back to where they started in the mid-80s. Of course, it’s a different company in a different world, but so far management seems to be making some intelligent moves to restore some of the luster to the company.
The fortunes of LIZ peaked in 2005, with sales reaching over $4.5B and per-share profits a thread away from $3. Unfortunately, the company didn’t notice that its growth rates were slowing and turning down, so expenses continued to go up, causing the company to make losses on still-healthy revenues over $4B. After that, the company fell right off the runway and sales have dropped to just over $3B in for the TTM. While the company is still making losses, it has reduced expenses and understands the need to execute a turn-around strategy.
Most would agree that Liz Claiborne itself is somewhat of a “tired brand”, but one that still can be used for a base fashion business. The company recently licensed the label to JC Penney (NYSE:JCP), who will work it for five or ten years and possibly call it its own in time. This transaction shifts a chunk of the business to a royalty model, which will mean lower revenues but much better profits and less working capital. In other words, it should improve ROIC from here. Management is doing some other things to reduce lower-margin and loss-making segments of the business as well, and outlined some of this in its most recent investor conference call.
The Liz Claiborne company itself is a collection of brands that includes Lucky Jeans, Juicy Couture and Kate Spade. These are the brands that need to be the engines of growth going forward. New brand managers have been in place in some cases and some initial results are beginning to show. Although I have no idea how well these brands may do, they all seem to have some legs in them. In fact, the prices and demand for products in these brand houses is fairly impressive. Since this is an area of near-zero qualifications for me, I’ll set it aside and let others comment on the brands and stores themselves.
Expectations for the company going forward have been reset. Current revenue forecasts suggest the quarterly nadir will come in June 2010, which is consistent with management commentary that the company will see a recovery in the 2nd half of 2010. We’d simplify current consensus as expecting the company to stabilize at revenues of $2.8-2.9B and report earnings of $0.20 - $0.40 per share.
The near-term opportunity is for LIZ to go from “basket case” valuation levels of TEV/Sales of below 0.5 to “decent”, which affords a TEV/Sales multiple of 1-1.5x. Because the company is leveraged, the increase in TEV would be realized mostly in terms of stock price appreciation. So if the company can get to “decent”, it could enjoy a stock price of $20 versus the current $4. As another check on the price, we would note that operating margins of 7-9% would be normal for a company like this, executing at the mid-point of the quality range. If we use 8% on $2.9B and a 30% tax rate, the earnings figure would be $160M, which is about $1.50/share. $20 corresponds to just over a 13 P/E multiple.
That’s a tall price appreciation but turnarounds are not easy, and this one has a few quarters to go even if all goes as planned. LIZ doesn’t feel like a company that could approach the success of Coach (NYSE:COH) (71% gross margins, 19% operating margins and a 3x TEV/Sales level), but it’s a better-than-even bet that it could get back into the pack.
We wrote this one up just for fun and the holiday season.