On January 8, 2014, Gildan Activewear (GIL) was welcomed as the newest member of my stock portfolio. I will be building a significant position over the coming weeks and months, and I expect GIL to occupy a prominent place among the small number of companies in the group for many years to come.
Gildan Activewear passes all my tests for the kind of company I want in my portfolio of 8-15 companies. I believe its current price will enable me to acquire shares at a fair price. This article will describe what I look for in a company and then compare GIL to my standards.
My Investment Selection Process and Criteria
I have a "suspect list" of companies that interest me. Over time, a few companies migrate to a "prospect list" of companies that warrant a higher level of due diligence to qualify them for a place in my small portfolio. I favor companies that
1. I understand and whose management I can trust;
2. Exhibit robust market acceptance and competitiveness as evidenced by healthy and stable gross margins and by growth rates of total sales and net earnings equal to or greater than the growth in nominal (as opposed to "real") GDP;
3. Regularly generate cash from operations in excess of increases in capital assets (typically referred to as free cash flow) in amounts amply providing for continued growth, coverage of debt obligations and continued funding of dividends (if dividends are being paid) at least at current levels;
4. Produce return on equity of at least 15% and return on investment of at least 10%;
5. Maintain a balance sheet characterized by appropriate levels of working capital assets, particularly inventories, and by a level of debt that could be repaid from cash flow within no more than four years.
When I have been able to buy companies like these at a reasonable price, I have held them a long time and most of them have produced rates of return considerably higher than the market averages over a period of years.
How does Gildan measure up?
Gildan, headquartered in Montreal with principal factories in the U.S., Central America and the Caribbean basin, is a vertically-integrated manufacturer of t-shirts, fleece wear, underwear and socks. The manufacturing process involves spinning fibers to make yarn, knitting the yarn into fabric, dyeing and finishing the fabric, and cutting and sewing the fabric into a garment. Yarn is spun at mills in North Carolina and Georgia with the balance of manufacturing done offshore.
Since its founding in 1984, Gildan's main products have been undecorated (blank) t-shirts (printwear) which it has sold internationally to distributors who in turn supply the screen printing trade. The screen printing trade itself is very diverse, producing a wide variety of printed shirts, which are sold through a wider range of distribution channels. Gildan is the leading source of blank shirts for the U.S. market. More recently, Gildan has been promoting its branded products, producing socks, underwear and activewear for sale to major retailers, including mass merchants, department stores and dollar stores, including outlets like Walmart and Kohl's. Products are sold under company-owned brands Gildan, Gold Toe (socks) and Anvil, and licensed brands Under Armor, New Balance and Mossy Oak.
The CEO of Gildan is Glenn Chamandy, 52, one of the founders of the company. He owns 7 million of the company's 121 million outstanding shares. The company has 34,000 employees.
Strengths, Strategies and Risks
Gildan operates in a highly competitive, low-tech industry. Its printwear segment, known for its reliable product quality, enjoys the dominant position in its market niche. In its newer retail brands segment, Gildan is up against several well-established companies with well-recognized brands, including Hanesbrands (HBI), two units of Berkshire Hathaway (BRK.A), Fruit of the Loom and Russell. "Moats" in the retail apparel business are generally based on brands, where Gildan's are less well-known by consumers than those of its competitors. On the other hand, its mainstay printwear segment enjoys a competitive advantage built on long-term relationships with distributors, its reputation as low cost provider, product variety, dependable quality and service. (Hanesbrands, previously a competitor in the printwear segment discontinued its printwear operations in 2012.)
Gildan's business strategy involves focusing on continuing to be the low cost provider, delivering product quality and consistency, maintaining and expanding internationally its strong position in the printwear segment, and growing its retail brands segment through new, branded products sold to a growing base of major retailers. In 2011, the company acquired the well-known Gold Toe brand of socks and in 2012 it acquired Anvil, a printwear competitor. The company is in the process of expanding consumer awareness of its Gildan brand, while augmenting its retail penetration through its licensed Under Armor, New Balance and Mossy Oak brands.
In addition to normal risks associated with competitive and macroeconomic factors, Gildan's products--while basic and of little fashion risk--are high in cotton content, leaving the company exposed to volatility in cotton prices, which can cause intermittent swings in gross margins. While the use of offshore facilities for manufacturing exposes it to some political risk and to weather events, these are risks borne also by its competitors and a risk Gildan has managed through for many years.
A company's sales and gross profit trends reveal how well its products or services are valued by its customers. Gildan's recent trends:
Note: Data throughout this article is taken from company filings available at the SEC website.
Sales grew at a CAGR of 13.6% over the 4 years, while Net Profit increased at a CAGR of 12.49%. Gross profit margins have held up well, except for fiscal 2012, when high cotton prices and manufacturing inefficiencies attending a ramp-up of a new textile mill impacted margins. Net profit margin is exceptional in all years, although it dipped in 2012, due mainly to the drop in gross profit that year. The trends indicate that Gildan is maintaining and expanding its segment market shares, consistent with its strategy.
The value of analysis is enhanced when the data of the prospect company is compared with other, somewhat similar companies. I've selected Hanesbrands for comparison because of similarities of some of its product line, recognizing that HBI has a broader product line and is more than twice Gildan's size.
Hanesbrands' recent trends:
* from company's press release; numbers are unaudited.
Hanesbrands' sales grew over the period at a CAGR of only 2.78%, compared to Gildan's 13.6%; gross and net margins, though different from Gildan's, both dipped in 2012 and rebounded in 2013, as did Gildan's. Gildan's growth rate was more than 4 times Hanesbrands' and net profit margin is twice as strong, partly due to a lower income tax rate.
Efficiency and Liquidity
The better management is able to sell to customers who can pay on time, manage its receivables and inventory, and maximize the efficiency of its fixed assets the better its returns are likely to be. Clues to management effectiveness can be found in the turnover of assets.
The following reflects Gildan's annual turnover statistics:
Receivables Turn (times/days)
9.0 / 40
10.2 / 35
8.7 / 41
8.0 / 42
Inventory Turn (times/days)
2.8 / 128
2.2 / 162
2.8 / 130
2.6 / 140
Payables Turn (times/days)
7.0 / 52
6.8 / 53
6.8 / 54
8.0 / 46
Cash Conversion Cycle (days)
Fixed Asset Turn (times)
Credit terms to customers are almost all 30 days or 60 days, so the receivables turnover indicates most invoices are being paid on time. (Aging information presented in the notes to the financial statements confirms what the turnover numbers are telling us.) The manufacturing process involves multiple steps performed in multiple locations both in the U.S. and offshore; the inventory turn indicates the process is managed efficiently. The cash conversion cycle is quite consistent, indicating that as the company grows the drivers of its liquidity are stable, making it easier for the company to grow at its current rate without creating undue demands on existing financial resources. The same conclusion is indicated by the stable use of its machinery and equipment. The message from these numbers: management is very attentive to the operational aspects of the business.
The resulting returns meet my requirements as shown in the following table:
Return on Equity (%)
Return on Investment (%)
The company did not meet my return requirements in 2012 due largely to a spike in cotton prices, but returns bounced back in 2013. A longer-term chart going back to 2003 would show my thresholds were reached in every year other than 2012.
Solvency and Sustainability
I look for companies with strong balance sheets and free cash flow adequate to sustain the company's strategies, service its debt and continue its dividend, if any, without reliance on a mounting debt load. The following table reflects key balance sheet ratios:
All Liabilities to Equity
Gildan's financial strength is superlative, with cash and receivables covering current debt in 3 out of 4 years. In 2011 and 2012, Gildan availed itself of a portion of its revolver to fund the cash acquisitions of Anvil and Gold Toe. Even so, the leverage was modest and the debt was paid off completely in 2013.
A company's ability to grow, service its debt and reward its owner(s) depends on the ability of its operations to generate sufficient cash. The following table reflects Gildan's record of cash flow, expressed by two different measurements: "free cash flow," determined by subtracting capital expenditures from operating cash flow and a more conservative metric, "sustainability income" (my term), determined by subtracting year-over-year change in all non-cash assets from net earnings.
Free Cash Flow
Gildan generated free cash flow in each of the four years, but Sustainability Income was negative in 2011, a year that saw the acquisition of Gold Toe as well as a $243 million increase in year-end inventory, particularly unsold finished goods inventory that had been produced with high-cost cotton. Part of the inventory buildup was financed in the ordinary course of business with trade payables that reflected the higher costs of purchased cotton. Since Sustainability Income was insufficient in 2011 to fund both the temporary inventory situation and the acquisition of Gold Toe, the company utilized a portion of its $800 million revolver facility (repaid in 2013) and reduced its cash on hand.
The following table relates free cash flow to debt repayment capability and dividend payments.
Free Cash Flow (FCF)
Gildan initiated its dividend in 2011, despite the fact that free cash flow was not quite sufficient to pay it. In that year as well, free cash flow was inadequate to pay long-term debt in 4 years. FCF came back into line in 2012, providing comfortable margin over an increased dividend and reducing years-to-pay long-term debt to just over 1 year. By 2013, long-term debt had been eliminated entirely and free cash flow was more than adequate to fund another dividend increase.
In valuing a company, I consider its recent growth rate and management's forecast for future earnings. In Gildan's case, 4-year earnings CAGR was 12.49% and management has recently forecast current year earnings growth of 11.5% to 15.2%. I estimate that the next 5 years will see similar increases in earnings, and for calculating intrinsic value, I will assume an 11.5% earnings CAGR for the next 5 years. Gildan is still a comparatively small player and is gaining market share. That suggests that the company will be able to grow at or about the nominal rate of GDP growth (5%) in perpetuity from year 6 forward. Using a discount rate of 10.5%, a discounted cash flow calculator would return an intrinsic value of around 24 times earnings, or $64 based on 2013 earnings of $2.61.
The stock is currently trading around $52 per share (P/E 20), giving me some cushion underneath the fair value calculation just described. I take further comfort from the quality of management, the historical returns on equity and the quality of the balance sheet. In addition, since I like dividends, I give the company extra credit for having initiated a dividend policy in 2011 and although the yield is currently low (0.8%), the dividend has been increased twice, first by 33% and then by 22%.
Gildan Activewear is the kind of company I look to add to my portfolio, for the reasons described. When I run across a company like this, the main issue I wrestle with is price. I believe the market is currently pricing the shares reasonably and that downside risks are manageable. I intend to add to my existing position over the coming weeks and months at or around the current price.
Additional disclosure: I may add to my long position at any time.