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  • Is Gordmans Still Underpriced? 0 comments
    Jan 20, 2011 7:39 PM | about stocks: GMAN

    Coming public in August 2010 at $10 per share, discount retailer, Gordmans Stores Inc. (NYSE: GMAN), has rewarded its shareholders handsomely. In now trades near $16 per share. But should owners of the stock book their profits now?

    The stock is priced similarly to competitors Ross, TJX, and Target. It is, however, any times smaller. This can be both an advantage, as far as having greater growth potential, and a disadvantage, as smaller business can be more fickle than their larger competitors. So what’s the story at Gordmans? Let’s take a look.

    Business/History:

    Gordmans is a discount retailer, featuring department store brands at up to 60% off. Merchandise includes apparel, accessories, footwear, and home fashions. They operate 68 stores in 16 Midwestern states. GMAN differs from retailers such as WalMart and Target by providing specialty and department store brands. Their closest peers are off-price retailers such as Ross and T.J. Maxx. GMAN stores are larger, 50,000 sq. ft. prototype, allowing them to provide a broader assortment of merchandise. They place an emphasis on store organization and layout, and also use a different pricing which they believe strengthens customer and vendor relationships. As described in the prospectus:

    Many other retailers, including many of our competitors, agree to pay a higher initial price to their vendors, but then seek to offset that higher price by demanding various reimbursements and discounts. Such retailers carry their products at a higher ticketed retail price, but then sell the majority of their merchandise at a discount under various promotions and sales. Thus, while our all-in cost of merchandise, and the ultimate sale price to our customers, may be similar to that of our competitors, we offer our vendors and customers greater certainty of pricing, which we believe is attractive to both vendors and customers. Finally, opportunistic merchandise procurement strategies, which in conjunction with everyday low prices define the off-price segment of the retailing industry, further enhance our value proposition.

    Gordmans evolved from a chain of ½ Price stores that emerged from bankruptcy in 1993. Current CEO Jeff Gorman took the reins in 1996, at a crucial juncture in the business. At the time there were 21 stores producing 220MM in sales, but the business was in need of numerous repairs. Gordman added to the management team, addressed pricing strategies and customer service policies, and changed the name of the business to “Gordmans”.

    Entering 2000 with 32 stores, Gordmans began rapid business expansion. There were 40 stores by 2002, and between 2004 and 2008, the business grew from 44 stores in 12 states to 65 stores in 16 states. In 2008, Gordmans was acquired by Sun Capital Partners Inc. for 56MM. It emerged as a public company in August, 2010 through an IPO. Sun Capital Partners still owns 70% of the firm, so it is thus a controlled company.

    The net proceeds from the IPO were roughly 30MM, this was used to pay down borrowings (18.2MM), to pay Sun Capital a consulting agreement termination fee (8.1MM), to pay bonus to certain executives (2.5MM), and to replenish working capital. A special dividend of 20MM was paid prior to the IPO, which was paid using borrowing (repaid by the IPO) and working capital.

    The company, as of October 2010, consists of 68 stores in 16 states. Sales for the year ended Jan. 2010 were 458MM, and it appears FY2010 sales will be in the ballpark of 500MM. While owned by Sun Capital, the firm took several measures to improve business strategy, corporate infrastructure and operating margins, and to position for large scale growth.

    Management believes it can continue to drive same store sales and margins, as well as expand the store base at a rate of 10% per year for the next several years. 60 markets in 16 states within a 750 mile radius of the company headquarters in Omaha, Ne. have been targeted for openings. Management believes these markets can support an additional 150 stores.  Since third quarter 2009, there have been three new store openings.

    Their distribution center has the capacity to support an additional 110 stores, and the company is well positioned to leverage its corporate infrastructure. Management’s stated goals are 20% annual net income growth, 10% annual store growth, 3-5% annual comp growth, and achieving 8% operating margins (a 230 bp increase over 2009).

    Financials:

    The balance sheet and income statement are quite clean and easy to read. This is a relief for investors, but also indicating less likelihood of stock mispricing.

    As of Oct. 30, 2010 the company had 29MM working capital, with a current ratio of about 1.3. They carry little to no debt on the balance sheet.

    Net income for the year ended 1/30/2010 was approximately 15.8MM. The company just posted a blowout Q3 2010 driven by 6% comparable store revenue growth. Net income for the nine months ended 10/30/2010 was 7.2MM, but excluding the one-time pre-tax charges relating to the IPO, net income for the nine-month period was 14.7MM ($0.87 per share). Management revised Q4 2010 guidance upward to 7.2-8.1MM ($0.37-$0.42) for the quarter. Using the low end of management’s guidance, FY 2010 income will be $1.24 per share excluding IPO related charges. Applying a P/E multiple of 15 would give a share price of $18.60.

    The stock is thinly traded. There are 18.9 mm shares outstanding, but just a 5.9 mm float, with average volume of about 50k per day. There’s a 3.2% short interest.

    Management:

    Management’s compensation is based mostly on performance, with a substantial long-term incentive structure. There have been many insider purchases since the IPO, with the most recent insider purchases at $17.50 per share. These purchases, however, consisted of a total of just 2,500 shares amongst three directors. The most significant insider purchase was by CEO Jeffrey Gordman, for 36,000 shares at $10 per share shortly after the IPO.

    Gordman’s track record as CEO has been very strong, and management is heavily incentivized by the success of their growth strategy.

    Why might the security be mispriced in the market?

    ·         Recent retail industry IPO- August 2010. Raised less funds, and at a lower price than expected.

    ·         Small market cap (300MM) decreases institutional demand.

    ·         Equity sponsor, Sun Capital Partners Inc., who bought the company in 2006, owns 70% of outstanding shares.

    ·         Last two quarterly reports were adversely affected by non-recurring expenses from the IPO.

    ·         Limited information available on operating history.

    My Opinion:

    The market is mispricing the growth opportunity. If you have shopped at other discount retailers such as Ross or T.J. Maxx, you can easily see that there is significant room for improvement, especially relating to the customer experience. Making this improvement in off-price retail is exactly Gordmans’ business model- to provide a more customer friendly discount department store. With a proven concept across multiple states and regions, and ample cash flow to fund growth organically, management’s objective of 10% per year store growth should be sustainable for several years. There is also room for growth in comparable store sales. They have a solid balance sheet with little to no debt, and an untapped 78MM line of credit. Management has a strong track record, and has spent the past few years focused on improving corporate and store operating efficiency rather than store growth. Once the market catches on to the earnings strength and reliable growth, a higher earnings multiple should be assigned to the stock.

     



    Disclosure: I am long GMAN.
    Stocks: GMAN
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