To say that interest in LIZ has picked up since the company announced it sold another $328mm worth of assets last week is an understatement. We expect more of the same in the coming weeks. We think the stock’s 50% move this week is not the culmination of the company’s 3-month transformation, but rather that it’s just the beginning of a more sustainable and less volatile move higher from here over the intermediate-term TREND and longer-term TAIL duration.
So let’s put some figures into perspective given the company’s shift from a leveraged/consolidating/profit losing stock to a growth stock with what we expect to be a growth multiple virtually overnight:
- For starters, $471mm in asset sales over the last 3-months will drastically reduce LIZ’s debt position by more than 60% from $769mm at the end of Q2 by the time these sales are completed by year-end. Moreover, the company will have enough cash to settle its Eurobond in full, but more importantly eliminate related Fx hedges that have created considerable volatility on the P&L.
- With Mexx and a basket of tertiary brands no longer holding back the company’s Domestic Direct Brands (Juicy, Lucky, and Kate), we expect ‘the company formerly known as LIZ’ to post low-to-mid teen top-line growth.
- More specifically, we assume the wholesale jewelry (what’s left of Partnered Brands) is roughly a $75-$80mm business growing at a LSD-MSD rate.
- Coupled with ~14% top-line growth in the remaining Direct Brands, we expect the company to post 13% revenue growth in 2011 as pro-forma financials become available over the next two quarters followed by 12% and 15% growth in 2012 and 2013 respectively.
- Gross margins will also see a significant boost from historic levels. LIZ has posted margins of 46.7% and 49.9% in each of the last two years. The margin profile looked something like this – Mexx at 51%-52% and Partnered Brands at 35-38% compared to Direct Brands at 55%.
- SG&A is the biggest variable in “NewCo’s” P&L. While we know the SG&A associated with the Direct Brands – which has been fully allocated –the addition of a corporate expense line due to some residual overhead expenses was suggested on the most recent call. While we are building in nearly $25mm in Partnered Brand related SG&A, this is one of the key questions heading into earnings on November 9th as management looks to reduce costs. Ideally, all costs associated with the sold off assets would be eliminated along with them, but it sounds like we might see at least a few quarters of further ‘streamlining’ as NewCo takes shape.
- With net debt down to $270-$290mm by year end (i.e. total debt ~$300mm), we’re modeling interest expense of $27mm and $23.5mm in ’12 and ’13 reflecting a blended rate of 9.2% (comprised of senior secured at 10.5% and convert at 6%).
- Tax Rate is likely to shake out at ~35% particularly with the sale of Mexx. However, near-term the company doesn’t expect to be a cash tax payer given its NOLs. This is another item that we expect to have greater clarity on once the Mexx deal is complete – we expect before Nov. 9th.
- Lastly, we have to consider the potential impact of the $90mm convert (due 2014), which can be settled in either stock, cash, or some combination therein. The maximum conversion if settled in all stock would be 25.1mm shares. We expect the company to pay some portion (if not most) in cash, which would reduce the dilutive impact if shares were called.
All in, we’re shaking out at $0.47 and $0.84 in 2012 and 2013 EPS respectively, which could translate to $0.40 and $0.69 assuming the maximum possible dilution from the convert. On an EBITDA basis, we’re at $165-$170mm in 2012 compared to updated guidance of $130-$150mm. With roughly $75mm in D&A and ~$10mm in EBIT generated from what’s left of Partnered Brands (wholesales jewelry business and QVC royalty), the company’s updated guidance implies Direct Brands EBIT of $45-65mm. That appears too low, if not – dare we say – down right conservative. We expect Kate to generate $58mm in EBIT alone. With Lucky at breakeven and Juicy EBIT margins of 4%, we’re coming out at ~$85mm in Direct Brands EBIT.
Based on the company’s 2012 outlook the stock is trading at 6.5x-7.5x EBITDA and ~6x our numbers – for 2013, you’re looking at ~4x. That’s 9x earnings, and a Free Cash Flow Yield of about 15%. Not bad at all – especially when the largest profit center (Kate) is growing sustainably at 35%+. While management’s credibility in meeting – let alone beating – expectations is virtually nil, it appears that McComb is finally setting the bar low enough to beat. This one is just getting started.
See our September 13th Black Book on LIZ (Get In While You Can) for our full investment thesis.
Casey Flavin
Director