On July 27th I published a post outlining why I thought Tailored Brands was deeply undervalued. Since then, the stock has nearly doubled. The market is up about 4% over that same time period. I want to summarize the events that have happened since July 27th and reevaluate the stock as we move into 2017. My post from July 27th can be found here.
Tailored Brands purchased Jos. A. Bank in 2014 for $1.8B which turned out to be a horrible acquisition. The business was deteriorating when they bought it and the promotional model was not sustainable. TLRD did not have an earnout covenant so they ended up having to write-off $1.24B in goodwill from the acquisition in 2015. This write-off was overly conservative. The $1.24B write-off deemed Jos. A. Bank to be worth basically nothing as the business had $460 million in cash when they acquired it. The following is from my post on July 27th.
Although the deal was terrible for existing shareholders I believe there is value in the stock today. In 2015, Tailored Brands wrote off $1.24B of goodwill from the acquisition. They paid $1.8B. This would mean that they only received $560 million of value. I don’t believe the deal was that bad. Below is a screenshot of Jos. A. Bank’s balance sheet before the acquisition.
Prior to the acquisition, Jos. A. Bank had $935M in assets and only $200M in liabilities. To be conservative, I would write off half of the acquired inventory since we know business has been bad. After that write off, I calculate that $585 million in assets were acquired (935-200-150=585). So we know they acquired about $585 million in assets vs. the $560 on the balance sheet today. This would mean that TLRD’s financials indicate the actual business of Jos. A. Bank is worthless and there were no synergies. We know this isn’t the case. Comp store sales at Jos. have taken a hit but are beginning to recover.
What has occurred since July 27th
On September 7th the company reported Q2 earnings which beat on the top and bottom line. Men’s Warehouse reported 2.9% comparable store sales. Jos. A. Bank reported -16.3% comparable store sales which was worse than I had expected but was inline with the Company’s expectations. The company also gave an update on their transition plan which will achieve $50 million in cost savings. During the second quarter, they closed 86 stores, including 45 Jos. A. Bank factory stores and eight Men’s Wearhouse outlet stores. They remained on schedule to close approximately 250 stores during fiscal 2016. TLRD reiterated their previous full year guidance of adjusted EPS in the range of $1.55 to $1.85 per diluted share. Overall this quarter didn’t impress me all that much. However, the stock jumped 16% because expectations were so low.
On December 7th the company reported Q3 earnings which also beat on the top and bottom line. Men’s Warehouse reported a soft 0.1% comparable store sales. Sales since Father’s day have slowed and management said that trend had continued through December 7th. Management said that the Jos A. Bank turnaround is gaining traction. Jos reported a better-than-expected comparable sales decline of 9.8% in the third quarter. This third quarter number was up against the final “Buy-One-Get-Three Free” event in October. This number was inline with what I was expecting. Management updated full year 2016 adjusted EPS expectations to $1.70 to $1.85 per diluted share from the previous range of $1.55 to $1.85 per diluted share. Jos A. Bank is expected to post mid-to-high-single-digits comps in the fourth quarter with Men’s Warehouse posting a negative low single digit comp. The company also gave an update on their transition plan which will achieve $50 million in cost savings. During the third quarter, TLRD closed 83 stores, including 74 Men’s Wearhouse and Tux stores, bringing the total year-to-date closures to 187 stores. They expect to close approximately 63 stores in the fourth quarter for a total of approximately 250 store closures during fiscal 2016. This quarter was better than I had expected. The turnaround in Jos A. Bank is on track. The stock soared nearly 40% on this earnings report.
In my July 27th post I discussed the Company’s debt situation. The liquidity risk in the stock has dropped significantly. TLRD will be net cash flow positive in 2017 while they continue to pay down their debt. Just as a reminder, these are their debt deals.
- $1.1B Term Loan due June 2021. Terms: LIBOR + 3.5%
- $500M ABL Facility loan due 2019. Terms: LIBOR (No borrowings as of 10/29/16)
- $600M in 7% Senior Notes due 2022.
In my last post, I mentioned I didn’t think the Company would be able to retire all of its debt timely. However, TLRD’s cash flow situation has improved in the second half of the year and it now appears probable that they will be able to retire all their debt on time without having to cut the dividend. Management continues to be positive on the trends they are seeing. I believe the Company will be able to achieve $20 million in net cash flow in FY17 while continuing CAPEX trends.
The valuation has changed quite a bit since my last post with the large move in the stock. In the last two quarters, we have seen Men’s Warehouse comps begin to weaken while JOSB comps have been stronger than expected. In 2017, I expected MW to have a flat comp and JOSB to have a high single digit comp. Overall I think a TLRD 3.4% comp is achievable. In the July 27th post I valued the stock with the sum of the parts analysis below.
As we approach my base case price target, I wanted to look at the valuation to evaluate whether the stock is still undervalued. The stock trades at about 13x forward earnings which seems cheap compared to the market at 17.5x. However, the balance sheet is still very leveraged so 13x times isn’t as cheap as it appears. The three year historical forward EV/EBITDA multiple is 7.6x. The stock is now trading close to 8x; about a 5% premium to the three year average. The stock is now pricing a lot of optimism around the JOSB turnaround. At this point, I believe this investment has transitioned from one with a positive skew to one that is now negative. 2017 should be a year where GDP growth is led by consumer spending. However, if that doesn’t transpire there may be limited upside in the stock.
This stock has been a monster over the last five months. I will continue to hold it in 2017 while I carefully watch the JOSB transition. I am not sure this is a great opportunity to initiate a new position now that the stock trades at a premium to the three year historical valuations. Consumer discretionary stocks did not perform well in 2016 as a group but I think 2017 will be a better year. Management continues to do a good job in getting JOSB back on track.