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Bad News and Good News 2 comments
Bad News and Good News
The Bad:
a) Mea culpa, the lack of transparency led 5 analysts and I to guide much too high, so while the y/y performance is super, Co gets no credit for it now.
b) They confirmed what the mkt already priced, that BTS planning was a disaster by both retailers and SKX and Shape-up orders have been cancelled or pushed back and inventory will not be balanced until end of 1st QTR.
c) 37% sales growth didn’t give the huge operating leverage analysts and myself budgeted based on 45% growth, thus GM miss vs. guidance.
d) SKX will not significantly ‘right size’ expenses until 1st QTR 11.
e) Based on COO cautious guidance on sales and margin 4th QTR will produce about 14c eps, so full year only $2.86 (upside surprise depends on holiday sales performance which could deliver more than 5% sales growth).
f) Margins next year revert to 42 to 44% range with maturing of toning business offset by higher Int’l margins on $. In view of this co will have to be very aggressive in cutting expenses in line with lower margins.
g) Co has seriously p off the analysts, so some will lose interest in this stock and stop marketing to clients. Lack of transparency. Will result in lower multiple than industry.
The Good:
a) Confirmed what Matt Powell and others are saying, that toning has bounced, sales are fine now, looking for usual Xmas season bounce, pricing remains firm on all items, so it’s just a question of maintaining pricing and distribution discipline to work down the excess inventory. Smart that they are bearing the burden for the retailers’ mistake, builds relationships. And they have the cash to carry the retailers’ inventory. Now the retailers don’t need to discount what is a best selling product. Small competitors likely to lose shelf space.
b) Confirmed that the original model now a classic/basic and selling without resort to unusual discounting.
c) Y/Y actual results, sales up 37% and earnings from ops up 71% and YTD equally impressive. Few cos have done this and no credit been given yet. $2B co and industry #2 now.
d) Confirmed 2011 sales and earnings will be higher (record), though keep in mind there is some shifting of 2010 orders now into 1st QTR 11.
e) Co will have about $9 in cash ps at end of 1st QTR and will be throwing off a lot of cash on its’ $2B+ sales, so will then implement “an intermediate plan for the cash“. Hard to see them not doing a buyback of at least $200mm, or who knows an MBO if they are not getting any mkt respect. That would boost eps by 20%. Puts a risk under shorts.
f) International wholesale growth to accelerate next year 40% based on established infrastructure of subs and distributors. China doors to go from 355 to 550. So, co can still grow materially even if US economy flat, better positioned than most US footwear retailers and non athletic brands.
g) Retail growing rapidly internationally, big store growth financed by licensees. Weak $ = great margins.
h) e-commerce to double by 2nd qtr to $50 to $75mm (great margins, no costs).
EPS PROJECTIONS:
This is tricky now, as it depends on holiday season sales trends and customer inventory takedown.
Using conf call guidance of conservative 5% growth in 4th qtr y/y, I get $408 sales and at 43% margin I get $7mm net and 10cents for the qtr. Thus 2010 would produce $2.81 eps.
2011 guidance was 42 to 44% margin, ie a reduction. The lack of clarity partially relates to how much the stronger margin international business (weak$) drives composite up.
Taking conservative case guidance from COO:
5% sales growth, low end of his 42 to 44% gross margin ie 42%, assume expenses run at 2010 level without ‘right sizing’ down.
I get $128mm net or $2.61 per share. Each additional margin point over 42% produces $20mm pre tax or $14mm net or 28 cents per share. So, eg, 43% margin would boost EPS to $2.89
Before the recession and before toning, SKX produced a margin of 43% + in 2006 and 2007. International is ramping up, as is retail, which produce much higher margins, so this will provide some margin upside.
So, how do you price this stock?
I guess you have to stick with the conservative case guidance on both margins and sales growth ie $2055mm and 42% in setting a likely floor.
Even 10x p/e on 2010’s $2.81 or 2011’s $2.61 gets you well above today’s price. Then there’s the $8 or so of cash by end of 1st qtr. If they use a good chunk for a buyback then you could argue that portion would be additive to the share price as buybacks increase eps proportionately.
Seems like one can make a reasonable case for a $30 stock even using a gloomy set of assumptions.
Xmas last year saw some $20mm sales weeks for Shape-ups, so watching the Xmas season sales will be key to getting even more confident about projections. However, SKX is not priced as the #2 US footwear brand currently, with the bonus of rapid international growth prospects on a platform established over several years at great expense.
Other than (understandable) emotional distaste, I can’t see why a rational investor would sell this stock at today’s price.
Conclusions:
Many retail investors will exit in panic, but the fundamentals are still strong for SKX. Domestic growth prospects now more modest, while international is now key, so share price now ridiculously low vs. peers who are domestically focused, though I acknowledge the upside is now more limited.
Co will now have to prove itself through end of 1st qtr, especially with toning and Int’l. But, based on B/V, cash, eps guidance this year and next year, Int’l growth and expense right sizing, this stock should be trading at $30.
The bear case of a disappearance of toning has been disproven. So, the current downdraft is all about the emotion of missed overly optimistic analyst expectation overriding the reality of a great actual y/y performance, for which the company is getting no credit.
Though I’m hurting today on my 33k shares, I always planned this as a long term hold and I still love this business model and it’s prospects. So, I’ll probably just ignore the price movement for a while. Note the family trusts and management are happy owning over $400 million of this stock, so that’s not a bad endorsement.
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This post has 2 comments:
Is the inventory problem telling us this is happening already?
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