CRI: Validating Print

Monster quarter relative to expectations. Nothing to make it shortable today, except sky-high valuation. But today’s earnings validated high pe. We think there will be a day of reckoning w/earnings as price compression looms.

 

This CRI quarter is a monster relative to expectations. It is still not one of the elusive few that actually beat and did not post a decline in EBIT yy, but impressive nonetheless for the following reasons.

  1. The top line accelerated across the board. Guidance of 15-17% (which we didn’t think was a slam dunk) ended up coming in +22.5%. This includes about 7% from Bonnie Togss, which was acquired two quarters ago, but that was already in our estimates. There was no single piece of business that drove the results. All divisions accelerated sequentially.
  2. Notably, the company did this while clearing out inventory, as the sales/inventory spread is at the best level in 6-quarters, and is looking at its best trajectory in about 3-years.
  3. One thing to keep in mind is that in addition to 7% growth from Bonnie Togs, there was 7-8% growth from Carter’s own square footage growth vs last year. It’s currently sitting at 359 stores (ie, a lot), and the company plans to go upwards of 600. The caveat is that they’re gonna build what they’re gonna build. But in order to get to the consensus estimates (which are presumably headed higher today) we need to assume that they return to the 18-19% operating margin level they saw as a smaller growth company over the past decade. We don’t think that’s doable on a meaningfully higher store base where they step on wholesale partner’s toes.
  4. We think that people are not getting the competitive dynamics out there. They’re saying that ‘retail is so important now, so I’m not as concerned about wholesale overlap at JCP, KSS, etc…’
  5. That’s borderline wreckless… Selling channels are product-agnostic. Ultimately, if the product at your own store looks too similar to what is at Wal-Mart, WMT will boot you. (HBI is evidence of that). All wholesale channels will squeeze CRI this year, and while their guidance represents costs easing – it does not represent pricing pressure from irrational competition and supply chain partners.
  6. Case in point… Can anyone find me an apparel company that is not banking on a 2H margin recovery? There’s not enough for everyone to go around, unless the consumer is willing to allow retail to print higher margins. If we (consumers) do, then it will be a first. This should be a key theme this year.

 

Think about some potential outcomes as things heat up out there.

  1. Carter’s signs a deal with JC Penney to occupy one of the 100 shops. But in doing so, it upsets KSS (who it already had accounting issues with) Macy’s (who already has a beef with JCP over Martha Stewart), and probably even Wal-Mart and Target. That JCP deal better have some extremely good economics.
  2. If there’s no deal at JCP, then CRI gets booted from JC Penney.  That’s not good, either.

 

The first one would be a disaster – a la Macy’s/JCP/LIZ in 2007. But neither help CRI.

 

Net/net, this is an extremely expensive stock that will stay expensive until there’s a catalyst to take it down. Obviously, it wasn’t 4Q earnings, and it wasn’t 2012 guidance. The company even gave themselves wiggle room with 1Q – so expectations are low there. Being short this name will likely continue to be an uphill battle – until it’s not. We think that will be the impact of price compression starting in mid-2Q, when operational leverage swings the other way for CRI. Our 2H estimates are likely to remain well below the Street. Wait this one out and revisit (along with us) in the coming months.

 

Brian P. McGough
Managing Director


CRI: Validating Print - CRI SIGMA

 

CRI: Validating Print - CRI Sentiment


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