Conclusion: We like Gary Friedman’s (RH CEO) stock purchase for a couple of reasons – some obvious, some not…
1) He bought his stock with just two weeks left in the quarter when he knows 95% of his revenue for the period – remember that a purchase today won’t be recognized as revenue until the product is delivered – sometime in 3Q.
2) The purchase comes at a time when the market is holding a quarter of the float short despite the stock trading at all-time trough price AND valuation. Furthermore current value is a third that of Wayfair, which has yet to earn a red cent.
3) Keep in mind that Friedman could have purchased the stock a week after the print (mid-June) at virtually the same price as we see today. But he waited…likely to ensure that everything management said to the street is playing out as expected. In other words, business trends are likely at or above what the company guided.
4) Most important to us is probably the hardest to extrapolate from a stock trade, and that’s the organizational solidarity. That sounds boring and academic, but things like store openings, new business lines, new territory penetration, the Waterworks acquisition, category ‘newness’, and about a dozen other business drivers mean squat to us if the right people aren’t in the right jobs, and are empowered with the right capital budgets and incentives to execute on the company’s vision. Here’s where we can go either way as it relates to the stock purchase. On one hand, it could be a gesture for internal constituents far more than Wall Street – specifically to give RH employees a confident message from their fearless leader and help stop additional attrition. The flip side is obvious…that Friedman finally has confidence in the team after watching the new roles he and the Board created, the promotions, and the layoffs affect the company at all levels of the org chart. Our inclination is that it is more the latter. Friedman is not one to cough up a cool million just to make people feel better. Our sense is that he himself is simply more confident about the org chart today than he did when he could have otherwise have made the purchase four weeks ago at a similar price.
ADDITIONAL FACTS and READ-THRU
The Facts: RH CEO, Gary Friedman, purchased 33k shares at an average price of $27.59 for a total outlay of $900k on Monday. This is the 2nd time that Gary has been active in the open market. The first time was back in September of 2014, following a reported comp and sales miss due in large part to the miss-execution of the Spring 2014 Source Book launch. In between there was a reported sale of $160k shares that will show up in most ownership screens, which was in fact a transfer of shares from Gary to his ex-wife as part of divorce proceedings. The circumstances behind this transaction couldn’t be more different given that we’ve seen $3.1bn in market cap evaporate over the past seven months before Gary stepped into buy shares vs. a 5% move from $82 to $77 the last time around. But, there were some limiting factors over the past few months which restricted management’s ability to step in and buy stock mainly – a) the company’s 2 month quiet period between FY15 year closing and reported numbers at the end of March, and b) the acquisition of Waterworks in the 1st quarter which all but chewed up the Senior Level transaction window.
Read-Throughs: This is the first positive data point we’ve seen come out of RH in 7 months. And the positive part of that is solely based on market inferences associated with Senior Level management making open market transactions. Now we are not saying this transaction is all for show, as Gary just threw down an additional ~$1mm bucks in a company where he has ~90% of his net worth invested does not equal a meaningless transaction. That plus the fact that we continue to be believers in the long term opportunity for the name.
But if we had to nitpick, we point to the fact that no one in the 2nd tier of Senior Management stepped in along with Gary to make a purchase. Heck, the only other insider to be active during the stock slide was one of the new board members, Keith Belling, who bought a $100k chunk back in late June.
Our rationale on that thought lies solely in the fact that much of the bear case for RH is tethered to the belief that a) RH doesn’t have the organizational depth to execute on its growth strategy, and b) Gary will blindly follow that strategy regardless of its merits. We at Hedgeye, are on the opposite side of that belief system, but we do think that a united front (as demonstrated by open market buy’s) would make a more meaningful signal to the market that the 2nd layer of depth fully backs the company’s often polarizing leader.