Tilly's: Another Blowout Quarter In Q3

Summary

• Tilly's released its Q3 earnings results this week, reporting record sales of $206.1 million, and tied its best quarter yet for quarterly earnings per share despite industry-wide headwinds.
• The company continues to see impressive strength from e-commerce and is benefiting from more full-priced selling, with margins up nearly 700 basis points year-over-year.
• With Tilly's on track to report record annual earnings per share of more than $2.00 this year, the stock remains very reasonably valued trading at $16.50 per share.
• Given the strong momentum in the business and much better unit growth outlook for FY2022, I would view any pullbacks below $13.15 as low-risk buying opportunities.

aluxum/E+ via Getty Images

It's been a solid year thus far for the Retail Sector (XRT), with the ETF up nearly 50% year-to-date, crushing the performance of the S&P 500 (SPY). One of the best performers this year has been small-cap retailer Tilly's Inc. (NYSE:TLYS), which is up more than 100% year-to-date due to industry-leading comp sales growth and meaningful margin expansion. Looking ahead to Q4, Tilly's expects momentum to continue and is on track to more than double annual EPS relative to FY2019 levels. Given the strong momentum in the business and much better unit growth outlook for FY2022, I would view any pullbacks below $13.15 as low-risk buying opportunities.

(Source: Company Presentation)

This week, Tilly's released its Q3 results, reporting record sales of $206.1 million, a 47% increase from the year-ago period. This translated to 33% growth on a two-year basis, which is one of the most significant increases we've seen sector-wide relative to pre-pandemic levels. The exceptional performance was driven by a higher store count (243 stores vs. 232 in Q3 2019) and high double-digit comp sales growth. Let's take a closer look at the quarter below:

(Source: Company Filings, Author's Chart)

As shown in the chart above, Tilly's has seen an impressive rebound from the height of the pandemic. This is because sales have entirely recovered from $77.3 million in Q1 2020 and are even up sharply from pre-pandemic levels. The outstanding results have been helped by continued strength from e-commerce and a more normal back-to-school season in the most recent quarter, with net sales at physical stores up 58% year-over-year and e-commerce sales up 14% year-over-year to $40.8 million. Relative to Q3 2019 levels, e-commerce has seen a 500 basis point increase in penetration (~19.8% vs. 14.7%). The company noted that it believes e-commerce is still in its earlier innings of growth and should continue at 20%+ penetration going forward.

(Source: Company Presentation)

Tilly's shared that the strength in the quarter was broad-based, with men's, women's, and accessories posting double-digit growth on a comp sales basis, while footwear and boys were up high single-digits. The company also reported an incremental $1.6 million boost to sales from hard goods, which the company has now begun to sell online, including skateboards and accessories, snowboards and accessories, and bikes. The company has also expanded its Sustainability shop on its website by introducing 40 new styles, with several brands offering sustainable options, including Hurley, Quiksilver, O'Neill, The North Face, Volcom, and Billabong.

(Source: Company Presentation)

From an investment standpoint, Tilly's noted that it has upgraded its mobile App, and expects to deliver further improvements to the App next year. This included adding loyalty and in-store experience features and improving its mobile functionality. The company is also working to improve its e-commerce platform and has planned website upgrades to make the e-commerce site more mobile-friendly. Meanwhile, from a labor standpoint, Tilly's will be offering labor retention bonuses to make sure it doesn't have any staffing issues during the busy holiday season. It has also accelerated minimum wage increases, with these being put in place during Q4 rather than waiting for the bump in the new year.

(Source: Company Presentation)

Overall, this made for an incredible quarter for Tilly's, and FY2022 looks like it should be even better, with the company planning to open 15 to 20 new stores, which would represent ~7% unit growth at the mid-point of this guidance. Tilly's noted that it would be opening these stores in California, Texas, and the Northeast. If the company meets this goal, this will represent a meaningful acceleration in its unit growth rate, with the store count previously increasing at a low single-digit rate. Looking ahead to Q4, Tilly's has guided for another record quarter of sales (Q4 mid-point: $212.5 million), with expectations for further margin expansion. Let's take a look at the financial results below:

Based on the significant increase in sales leverage and more full-priced selling, Tilly's saw incredible margin expansion on a year-over-year basis, with gross profit coming in at 37.2%, a new record for the company. This was a more than 700 basis point improvement from the year-ago period. On a two-year basis, product margins were up 200 basis points due to less promotional activity, helping Tilly's to report $0.66 in quarterly EPS, tying its record set in Q2 2021. Based on Q4 guidance, the company expects to see margins up slightly on a year-over-year basis, though down slightly on a sequential basis, given that Q4 is typically the weakest quarter from a margin standpoint. The margin improvement year-over-year is even more impressive when factoring in the labor retention bonuses, accelerated minimum wage increases, and higher shipping costs.

In terms of supply chain headwinds, which continue to plague the industry, Tilly's mentioned that it is comfy with where it stands from an inventory standpoint, though delays could impact ~10% of total inventory. Given what should be strong retention rates for labor following the wage increases and bonuses and a decent inventory position, Tilly's should be set up for a very strong holiday season. So, while supply chain headwinds are hurting many names sector-wide and have investors skittish about Q4 sales, Tilly's looks to be in a very solid position and is actually mitigating the margin pressure due to its impressive sales performance. Let's take a look at the earnings trend below:

(Source: YCharts.com, Author's Chart)

As shown above, Tilly's is on track to see a massive increase in annual EPS this year, with annual EPS expected to come in above $2.00, translating to triple-digit growth relative to pre-pandemic levels. In addition to this triple-digit growth rate, this would represent an earnings breakout for Tilly's, with annual EPS emerging from a multi-year consolidation to new highs. At a current share price of $16.50, Tilly's is currently trading at just ~8x earnings despite a recent trend of significant margin expansion, a very reasonable valuation even for a small-cap name.

Valuation & Technical Picture

Looking at Tilly's historical earnings multiple below, we can see that the stock has traded at an average earnings multiple of 16 over the past several years and 13 more recently. Typically, the best time to buy the stock has been when it's dipped below 10x earnings, as evidenced by its previous two troughs (9.6x and 6.4x earnings), and despite the recent rally, Tilly's still trades below this level. This suggests that there could be further upside from current levels and that the stock is a very solid buy-the-dip candidate for those willing to invest in lower-cap names.

(Source: FASTGraphs.com)

So, is the stock a Buy?

While Tilly's is very reasonably valued at ~8x earnings, the stock is running into a potential resistance level overhead at $16.85, representing an area where we saw strong selling pressure in June, August, and earlier this month. It also represents the underside of a broken trendline off the March 2020 lows, which could be a sticky point for the stock. Generally, I prefer to buy stocks when they are in the lower portion of their trading range, even if they are undervalued, and especially if the overall market is in a correction.

With just $0.35 in upside to resistance and more than $3.30 in downside to support ($13.20), Tilly's may have a great reward/risk setup from a valuation standpoint, but not from a technical standpoint. This is based on the fact that Tilly's trades at a reward/risk ratio (support vs. resistance) of 0.11 to 1.0. The poor reward/risk ratio does not mean that the stock can't go higher, but it does mean that we could see more volatility, even if Tilly's looks quite undervalued here.

(Source: TC2000.com)(Source: Multpl.com, Author's Chart)

Tilly's had another blowout quarter in Q3, and based on Q4 guidance, momentum is set to continue in a big way. With accelerated unit growth planned for next year, continued investments in its mobile App and its e-commerce platform, and investing in its team members, I would expect a very impressive 2022 out of the company. Having said that, the overall market remains in a precarious position, trading in nosebleed territory from a valuation standpoint, and small-cap stocks tend to get hit the hardest in violent sell-offs. So, while Tilly's makes a great buy-the-dip candidate, I would be less inclined to pay up for the stock here above $16.50. Having said that, if we were to see a pullback below $13.15, I would view this as a low-risk buying opportunity.

Analyst’s Disclosure: I/we have a beneficial short position in the shares of QQQ either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Disclaimer: Taylor Dart is not a Registered Investment Advisor or Financial Planner. This writing is for informational purposes only. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Taylor Dart expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

Comments

[6228371]

"Given the strong momentum in the business and much better unit growth outlook for FY2022, I would view any pullbacks below $13.15 as low-risk buying opportunities."

Below $13.15 low risk? I guess it depends how much below. I started buying at under $8.

[bazooooka]

Single digits normalized earnings is more realistic for this one but bottom likely comes before 6 bucks