Adidas: Don’t These Guys Learn?

Adidas is buying Ashworth, a maker of mid-priced golf apparel, for $72.8mm or a 10% premium to Friday’s close. The market loves the deal. I simply don’t get it. Does ROIC matter to this company?
First off, Ashworth has no EBITDA, and is burning cash every day that it remains in business. EBIT margins peaked in ’04 at 10%, but has steadily crept to -8% as it grew its moderate brands into expensive company-owned retail stores (note SG&A ratio went from 31% to 42%). That’s a component of retail 101 this company ignored (and cannot easily fix).

Cash flow valuation here is useless (bc there is no cash flow), so I think that the best thing to do is to look at book equity, which is where this deal looks cheap at 88%. My only reservation is that most of this value is finished goods, and my confidence in the quality of inventory is not high. In addition, we need to consider the forward lease obligations of $75mm (which most people fail to do).

I guess what shocked me the most is that Adidas does not do well when it buys assets that 1) it needs to fix, and 2) overlap with existing businesses (like Taylor Made). Remember Reebok? $3bn invested in another brand that went away. If Adidas had invested that in its own brand, it would not be getting crushed in the US market today.

So why did they do this? My sense is that it is to leverage the fact that Ashworth has the license to make Callaway apparel. To say that Ashworth has done a poor job there is an understatement. Can Adidas make this work and leverage its TMaG infrastructure? Probably. But as a shareholder I’d rather see the company invest half that amount in its own brand and drive higher EBIT, better brand awareness, and better ROIC.