By Jordan Terry
I've been away from Seeking Alpha for a while, but if you follow me on Twitter or Stocktwits, you’ve likely seen me express significant skepticism about men’s retail/apparel retailer Jos. A. Bank (NASDAQ:JOSB) and the many and myriad red and orange flags in the firm’s SEC filings.
Over the past several quarters/years, their filings have become more opaque, an almost certain sign that things are not as rosy as management wants you to believe. (Especially) of late, the firm is generating very little to negative operating cash flows (click for larger image):
The majority of the hit to operating cash flows comes from JOSB’s ballooning inventory balance, offset to no small degree by accounts payable increasing over 100% through the first 3 quarters from about $31 million to about $64 million. Whenever a payables balance increases so much, so fast, investors should be extremely wary ...
At best, this is an example of horrible working capital management, as at Q3 (10/29), inventories represented 41.4% of total assets (compared to 33.6% at the beginning of their fiscal year, 1/29). Now its no surprise for a retailer to ramp up inventories going into the holiday season, but those numbers are high not just on an absolute but relative basis. Even the questionably-managed Gap (NYSE:GPS) had inventory as % of total assets in the same periods of 30.4% and 20.9%.
JOSB management claims that because they primarily sell “classic, timeless” styles – as opposed to “fashion” apparel, the value of which is uncertain and can change overnight – investors shouldn’t worry about the company carrying 200, 300, or more days of inventory on its books. I’m sorry, but while JOSB management may not be as shady as ZAGG’s, I’m just not buying that a suit, sweater, scarf or whatever made a year or two (or more) ago, however “timeless” the style may be, is worth as much (and is as salable) today as it was when it first went into inventory. While the businesses are admittedly different, I think a company like Ralph Lauren (which more fashion-sensitive) sells fairly “timeless” styles. They only had about 19% of assets in inventory in October and only 14% in January, less than half of JOSB’s numbers!
JOSB is growing both sales and earnings at a pretty brisk pace, but the inventory balance seems to growing even faster. At the end of Q3, JOSB had over 350 days of finished goods inventory (about 380 total), which is the highest its ever been (calculated as Q3 inventory/9-month cogs*270). This is a bit inflated since about 37% of JOSB’s sales come in Q4 and inventory ramps up in Q3 to prepare for that, but its fairly easy to see from this chart (courtesy my friend and rockstar CNBC contributor Patty Edwards) that there might just be a bit of an inventory problem at JOSB:
If JOSB has a good Q4, they’ll get down to somewhere around 280 days of inventory, and if they have what I think would be a fairly great one, they’ll get down to the 250 range, both of which are still insanely high. Again, even GPS got down to 67 days last year and should be somewhere not too far from that this year as well, and RL is usually in the 100-110 range. JOSB’s inventory levels are at best, 2.5x as high as other major retail/apparel companies, more realistically, the number this year is more like 3-4x what I’d like to see for a well-run retail/apparel company. In fairness, JOSB’s closest comp, Men’s Wearhouse (NYSE:MW), also has high inventory, but 1) MW’s business is a bit different with a much larger tux rental operation and 2) MW is another story for another time.
Anyone who watches CNBC should be well-acquainted with JOSB’s extremely annoying, highly-promotional commercials. Throughout this year (when I started paying attention) it was not uncommon to see not just BOGO (Buy One Get One) suit free, but buy one get TWO suits free. Today, JOSB aired what seems to be the biggest discount I can remember: Buy one, get 6 free; buy one suit, get 2 suits, two shirts, and two ties free!
While this is an extremely small sample from which to make any conclusions, I have a bit of a hunch that the holiday season didn’t go quite as well as JOSB management had hoped, and inventories post-Christmas are higher than they were aiming for and revenues lower. If this is the case, JOSB is in a fairly unenviable situation: Try (somehow) to boost sales while keep gross margin intact with minimal discounting (hope & pray method), or use deeper than desired discounting to clear out inventory and (hope they) hit revenue #’s, which should have some impact on gross margin. Neither option is really optimal from an investor’s or management perspective. With option #1 revenues will likely not hit guidance/estimates and the inventory balance will still be crazy high. With option #1, they should be able to get the inventory balance down to something not so fantastically insane while having a chance of making the revenue numbers, at the expense of somewhat lower gross margin.
Of course, I could be totally wrong and JOSB’s heavy promotions have succeeded in drawing shoppers into the stores and the website in droves, revenues will be through the roof and inventories will get down to an actually reasonable level, but to say I’m skeptical is probably a bit of an understatement.
I think JOSB’s accounts are largely honest, but when you’re a growing company the pressure to hit targets is extremely intense, and that’s when the (perceived) incentive for management to cook the books is the highest. I don’t think there’s any crazy accounting issues going on here, but it's not outside the realm of possibility.
As always, caveat emptor.
Disclosure: No position JOSB.