Foot Locker - Compelling Value Amidst Accelerating Momentum

| About: Foot Locker, (FL)

Shares of Foot Locker (FL) ended the week 3% higher. On Friday, the retailer of shoes and apparel, reported a decent set of second quarter results.

Second Quarter Results

Foot Locker reported second quarter revenues of $1.37 billion, up 7.2% on the year. This compares to analysts expectations of $1.35 billion. Despite the economic worries, comparable sales in Europe fell a mere 0.5%. Total revenues rose as the company opened 30 new stores in the continent. The comments in the earnings transcript were also very promising. Comparable store sales rose 9.8%. Sales grew in high single digits in May and June, and double digits in July.

Net income rose from $37 million last year to $59 million, or $0.39 per diluted share. On average, analysts expected earnings of $0.33 per share. Excluding the adverse effects of a strong dollar, second quarter revenues rose 10.6%.

Gross margins improved 90 basis points to 31.3%. Margins increased 130 basis points as a result of increased selling volumes and lower occupancy costs. Merchandise margins fell 30 basis points as a result of markdowns in Europe. Furthermore, comparable growth was higher in the US where Foot Locker reports lower margins, as the market is more competitive.

During the first six months of 2012, Foot Locker opened 47 new stores, remodeled/relocated 109 stores and closed 62 stores. It now operates 3,354 stores.

Effective inventory management resulted in a 3% decline in inventories to $1.2 billion, despite a 7.2% increase in revenues.

During the quarter, the company repurchased 1.2 million shares for a total consideration of $37.5 million. The company still has little over $335 million left under its share repurchase authorization.

CEO and Chairman Ken Hicks commented on the results, "I'm very proud of the entire Foot Locker team. We have achieved consistently strong financial and operational results since we began implementing our long-term plan over two years ago. This consistency was also evident with the good profitability we achieved this quarter across our divisions, from the North American stores, to Europe, and to our direct-to-customer business."


Foot Locker ended its second quarter with $820 million in cash, equivalents and short term investments. The company operates with $133 million in long term debt and capital lease obligations. This results in a net cash position of $687 million.

For the first six months of 2012, the company reported sales of $2.95 billion. Net income came in at $187 million, or $1.21 per diluted share. The company is on track to report annual revenues of $6 billion and net profits of $400 million, or $2.50 per diluted share.

Trading at $35 per share, the market values the firm at $5.3 billion, or roughly $4.6 billion for its operating assets. This values the firm at 0.8 times annual revenues and 11-12 times earnings.

The valuation compares to a revenue multiple of 1.4 times for DSW (DSW) and 0.7 times for Genesco (GCO). These competitors trade at 10 and 19 times trailing annual earnings, respectively.

Currently, Foot Locker pays a quarterly dividend of $0.18 per share, for an annual dividend yield of 2.1%

Investment Thesis

Year to date, shares have returned 47% in 2012. Shares rose steadily from $24 per share towards current highs of $35. Shares are trading near all time highs, at the same levels as in the beginning of the 1990s.

Over the past five years, shares rose almost 130%. Revenues rose from $5.2 billion in 2008 towards an expected $6 billion in 2012. The company suffered from structural profitability issues in 2008. Between 2008, when the company lost $80 million, and 2012, when the company is on track to report $400 million in net income, earnings rose each sequential year.

Despite an almost 50% return in 2012, shares are trading at a fair valuation. Momentum remains strong, and is accelerating in July and August. Even growth in Europe, was up by mid-single digits in the continent. The company guides for 30-40 basis point gross margin improvement in the second half of its fiscal year.

Despite a decent run-up so far this year, shares offer compelling value amidst continued momentum and a fair valuation.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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