In an 8K released this morning, FNP announced that it will be offering $150mm in 10.5% secured notes due 2019 with the intent to:
- Pay for all or portion of expected exercise of the buyout option for a 51% interest in Japanese JV partner Sanei International
- Repurchase $37.1mm of 5% Euro Notes (€28.6mm)
- Effect the redemption of the remaining €52.9mm aggregate principal amount of Euro Notes outstanding (not due until July 2013)
The bottom-line here is that we’ve never seen a higher-end brand take back control of its content and distribution and it not be a positive event.
Here’s what this means for FNP:
- It’s further reducing the remaining Euro Note position and the related volatility embedded in the Other Income line on the P&L at a time when the USD is strengthening = Positive.
- It’s taking over majority control of Kate Spade’s Japanese business similar to what the company did in China last summer, increasing FNP’s control over international brand growth (~15%-20% of brand sales) in the process = Positive.
- Less volatile, but more expensive debt. This comes as a bit of a surprise in the current interest rate environment. However, the company is effectively pushing out the duration of its debt exchanging debt due in 2013 for debt now due in 2019 so it’s about a wash.
- As for the EPS impact, there is a fair amount of variability here primarily as it relates the profit contribution of the JV. We will have a more detailed analysis on this to follow. In looking at the initial net impact on interest expense alone, it results in $11-$12mm of incremental expense when accounting for the increased rate, change in cash balance, etc., which equates to ~$0.06 in EPS dilution. Assuming a similar structure to Kate’s China JV in which wholesale sales are still realized as such, but now FNP realizes incremental profits in the Other Income line, and depending on the number and productivity of doors in Japan as an offset, this may end up being an accretive deal from Day 1.
We expect the company to continue to reduce and eliminate the remaining Euro Note exposure over the next few quarters in light of USD strength – patience here has proven prudent. With the balance sheet greatly improved, we don’t think $40-$50mm in incremental debt is a concern relative to this time last year.
That said, while we would have liked to see it at lower rates, this move gives FNP greater control over Kate Spade’s international growth trajectory. With Kate accounting for over 50% of EBIT, we like this move in aggregate. We’re at $0.66 and $1.00 in EPS in F13 and F14 respectively (pre filing). FNP remains a top long idea.
Casey Flavin
Director
