Gap Inc (GPS) | In what might be a sign of the apocalypse, we’re going long GPS. Per our process, it’s starting on the Long Bias list and will move up as the research call progresses, or the price gets more attractive. This is the first time I (McGough) have been long GPS in my 28-year career. The stock got absolutely shellacked last week on the Old Navy miss – which is something we were not surprised by in the least given our negative view on apparel we outlined in our deep dive on 4/7 (Replay Video Link: Click Here). The interesting thing about the miss is that it’s being explained away by execution issues at ON – which cost the CEO her job. Perhaps the business could have been managed better, but the reality is that the ‘casual, comfy, relaxed’ apparel assortment at Old Navy is not where the consumer is shopping right now. People are dressing up again, and are paying up for more expensive spring and summer apparel – which is why names like Revolve and Nordstrom have been ripping (and we thing are VERY shortable as trends are not sustainable). But beyond Old Navy, the real reason for our bullishness is around Athleta. We commented on this name last weekend and said we’re leaning more positive. Now with the 20% price correction, we’re squarely positive. It’s an extraordinarily rare occurrence to find a portfolio of brands where 10% of the revenue base (Athleta) can represent over 100% of the enterprise value of the parent company. What we/I find so amazing is that there are ridiculous activist campaigns being waged around the likes of GES and KSS – campaigns that are likely not winnable and will result in minimal value-creation. But we have yet to see anyone go after GPS to spin out Athleta, which we think has line of sight to $2bn in sales, and $400mm in EBITDA. LULU trades at 25x EBITDA, so why can’t Athleta trade at 15x? That would suggest a $6bn EV, while GPS is trading at just $5.1bn after last week’s walloping. Are we still concerned about negative inflation spreads in the core Gap business as well as Old Navy? Of course…but the bar was just reset, the stock is washed out, and it’s trading at 5x underlying earnings, which includes Athleta. At this price, you’re getting Gap, Old Navy and Banana Republic for free…and while they’re not premium assets by any stretch, they have a place in the retail ecosystem – even if it’s to generate $13-$14bn in annual sales with no growth and a 5% EBIT margin – which is about $1.40 per share in EPS power (with no debt). We have a really difficult time – even in Macro Quad 4 – getting to a situation where the stock revisits the $7-$8 price levels we saw at the start of covid. And think that the spin-off of Athleta thesis will start to resonate in a very big way in the coming months. The stock likely has $2-$3 downside, and $10+ upside from here over 12 months.
MarineMax (HZO) | Taking higher on Short List ahead of the print this Thursday. We’ve started to see cracks in spending and sentiment at the high-end, and MarineMax is the ultimate play on ‘shorting the rich’. MarineMax is a retailer of new and used boats as well as aftermarket parts, maintenance, storage, financing and some other small business pieces. In terms of the business mix new boat sales constitute 70% of sales and Used Boat Sales another 10-15% while the remaining 15-20% is split up between Maintenance, Repair, Storage, Equipment/Accessories, F&I, Brokerage Sales and a Charter Service. Since 2013 HZO has had gross margin clock in between 24% and 26% every single year and operating margins in the 4%-8% range, however in the environment of low inventory and a consumer flush with cash, Gross Margin in FY2021 (company's FY ends in September) stepped up to a new high of 32% while operating margin similarly rose to 11.4% resulting in earnings per share of $6.78 for a company that earned $1.63 in the year pre-covid. That increase is predominantly driven by unsustainable pricing and mix in a low inventory environment similar to how new car ASPs and margins are at all-time-highs for the auto dealers. The pricing and mix is heavily weighted to the higher end/luxury consumer buying the mega-yachts such as Azimut rather than the average consumer buying a Boston Whaler or a new Mastercraft wakeboarding boat (see chart below). Yet, consensus has straightlined the new peak 32% margin into perpetuity and is modeling that $7 in EPS power holds steady over a TAIL duration. This company has reversion risk all through the P&L from peak revenue growth to peak margins to peak earnings power. A consumer facing high macro level spending headwinds along with a normalization of the inventory position and a mix reset back to normal selling will likely see gross and operating margins fall back to historical levels and presents ~40% downside in the stock – entirely from a massive negative earnings revision. If the company hits this quarter, we think the guide is likely to be cautious at best.
Source: BoatsGroup 2021 Market Index Report
Rent-A-Center (CRII) | Taking RCII a few notches higher on our Short Bias list. The stock has remained under pressure after working quickly after our call at the end of January when the company missed 4Q earnigns and subsequently guided down 1Q and 2022. However, since that guidance in February inflation has seen a material lift pressuring the low end consumer, and we have gotten data points from TPX and SNBR that suggest some significant demand weakness in March for big ticket durables items, which makes up a good portion of RCII’s sales. Also, SYF’s earnings report indicated rate of change pressure on delinquencies and payment rates for consumers falling in March, the first time we have seen a decline in a long time. We are likely past peak in consumer credit quality. If consumers are struggling curbing credit card payments, we could see customers missing payments on RCII’s leases driving up the cost line concurrent with weakening demand. The stock is “cheap” around 5x consensus P/E, but the earnings risk here could be fierce, much like what we have seen at SNBR the last couple quarters.
Driven Brands (DRVN) | Moving DRVN higher on Best Ideas Long list ahead of this week’s print. We like this model a lot with long term top line and EBITDA targets set out by management that are an absolute slam dunk. While the bear-case is that this is an acquisition/roll up in the auto services industry, we think that the organic growth will surprise on the upside. DRVN has one of the strongest unit growth stories we can find in retail. DRVN also has commitments for 800 franchise agreements and 200 company-owned openings for visibility to 1,000 organic openings over the next 4 years. The Car Parc continues to grow older as 2020 was an inflection year in the % of cars in the fleet older than 5 years given the delays in the auto supply chain and the corresponding moves in the Manheim Index. We see the % of the fleet older than 5 years continuing to grow over the next 3+ years, keeping in mind that the last upcycle for an increase in the age of the Car Parc lasted from 2003-2013. Driven Brands' sweet spot of vehicles that the portfolio services is cars greater than 6 years old. Ultimately, in what we consider to be the ‘uncompable year’ for retail (over a record 2021 in revenue and profits) DRVN is one of the few companies that should drive both sales and margins higher. The EBITDA multiple is now at trough in the mid-teens (down from peak of 28x), which is a reasonable level for the auto aftermarket space where private equity has a healthy appetite. As for 1Q, we’re coming in with EBITDA at $109mm vs consensus at $103mm. Note the strength reported by GPC last week for its Automotive segment (Napa) with expectations for continued strong performance. Longer term as good as the $850mm EBITDA target is by FY26 (vs $362mm last year), we think that the REAL EBITDA number will top $1bn by FY26. The company should hit its target about two years early leveraging both organic growth and M&A. We think this stock is a double over a TAIL duration.
