Best Idea Short
No major change to the thesis, which is as follows…
1) At the butt-end of a 25-year paradigm which tripled unit consumption of apparel, especially basics – which is nearly 100% of what CRI sells.
2) Demo trend unfavorable.
3) While core is very defendable, growth and share gain are both absolutely decelerating.
4) Management compensating for share stall by growing ‘playwear’ (instead of layette and sleepwear) side of the business, which is highly fragmented and massively more competitive.
5) Store base is near peak part of maturation curve, and still can’t comp.
6) Already in top MSA's – so filling in existing markets. Goal to get to 1,200 stores, while new store economics are eroding. ‘Customers not coming to us, so we’ll go to them’ (my words, not theirs).
7) Why aren’t stores comping when dept stores are closing? Maybe too soon to make that call on my part. Maybe bullish in 2-3 years? For now it’s bearish.
8) Product is NOT tiered by wholesale, retail, dept store vs mass, hi-end vs low end, US vs Int’l, or on-line vs traditional wholesale. This is fine when share is in its infancy/toddler stage, but not when it’s maturing – which it absolutely is.
9) Did a so-so acquisition bc it needed to, not bc it should. I’d rather have seen mgmt put the $140mm in capital into capex or SG&A to accelerate growth in its own brand.
10) As wholesale accounts feel pressure in other areas – even Home and Grocery, I will absolutely make the case that the secondary and tertiary derivitives of supply chain pressure will impact CRI (and everyone’s) margins.
11) Cotton costs are 26% above last year. Does not buy cotton directly, but embedded in FOB. And let’s face it, it matters for CRI more than anyone sans HBI and GIL.
12) We’re below consensus across the board. If our 2018 number is right, we’re looking at a 12-13x multiple, or a $60-$65 stock vs $94 today. If the Street is right and we give it 17-18x, then we have a $105-$110 stock. While the up/down favors the short-side, it is not overwhelming. In other words, we absolutely have to be right on the model. I think we are, hence CRI as a Best Idea short. If the research changes, we will too.
-McGough
McLean puts and takes on the financials…
Good:
-Wholesale better than expected, growing 0.2% accelerating 100bps with guidance for it to slow. Skip Hop acquisition added 2.3% to wholesale growth – slightly ahead of plan, thought below what we expected. That’s the first company we’ve heard say that, so sounds like a sandbag. Company also noted some early spring demand shipments shifting from Q2 to 1Q, dollar value of $5mm or about 2pts of wholesale growth.
-New segment reporting makes a lot of sense, and actually reduces confusion. The old store/comp commentary was getting ridiculous given the number of side-by-side and co-branded stores. The new set-up should make for more clarity in performance. Though trailing quarters would have been nice to add, rather than making us dig through old presentations for comparable store counts.
-Comps improved to ~+2% ytd in April, but that’s still over a 300bps slowdown from 4Q.
Bad:
-US comp slowed 900bps, we’ll give the benefit of the doubt with an Easter shift given what we have seen in other retailers – though that doesn't synch with the comments about wholesale pull-forward. Comps improved in April, but YTD still slowing about 300bps on a 1 and 2 yr basis from 4Q rate.
-Canada was downright ugly with a store comp slowing 1850bps, with international wholesale down 9%. An Easter shift can't explain that.
-Pricing was pressured in 1Q including a more promotion direct channel. The company is guiding AUR to increase in the back half to prop up gross margins.
-Inventory/Cash flow – Awful SIGMA move with inventory up 15% on 1% sales and down margins. The replenishment focused Skip Hop brand could be contributing a portion of this, but at only about a 4% revenue bump, its hard to think it could account for more than HSD of inventory growth. CFFO was down 34%.
-Stores – CEO Casey discussed the store plan early in the call. We got the usual commentary: nearly all stores are cash flow positive, high percentage of our stores are contributing to both sales and profitability, best customers shop at both stores and online, co-branded stores are performing well, etc. CRI is planning another 240 stores by 2021. That would put it near 1200 stores. JCPenney thought that was the right amount of stores a decade ago, until it became clear it was not. CRI US stores have comped negative for 9 straight quarters. Incremental investment is going to ecommerce, returns on store have to be getting worse.
-Management noted product costs still to help in back half. Check out a cotton price chart. Were passed the trough of last year in March, and the lag for CRI should be no more than 4 quarters before that cost increase starts to flow through to the P&L.
