My biggest concern at this point on HBI is that our ‘going to zero’ call makes so much sense to me that I wonder what in the world I could be missing. There’s a Bull for every Bear – that’s what makes a market. But seriously, I’ll go to the mat with anyone, anywhere in defending this Short thesis. If management wants to spend some time in Hedgeye’s studio debating both the merits of its story – as well as my thesis – I’ll do that any day. (Yes, that’s an open invitation).
One thing I have working in my corner on this one is math. Math comes in handy every once in a while in this job. I like math. Math tells me that HBI is…
- overearning by 60%,
- ‘over-generating’ operating cash by 50-60%,
- is teeing up 75% of next year’s free cash flow in the form of a dividend, while it just had the audacity to repo $300mm in stock instead of pay down debt,
- at peak utilization when it took capex to trough (super bad – should be the EXACT opposite),
- underinvesting/overpromising so much, that if it actually normalizes capex to a level that will facilitate the business to no longer shrink, it will leave between $100mm-$175mm in free cash – BEFORE it will need to pay the $225mm dividend (ie will have to cut it).
- is overearning its (vanishing) wholesale channel by 3x – greatest spread ever,
- is at 4.4x (GAAP) leverage, just below the ‘covenant busting 4.5x level’, which precludes HBI from upping capex to where it needs to be, or buying more assets to obfuscate eroding growth further. Somehow, management suggested on the call that it could still do deals.
- Oh, and math also tells me that at 11x EBITDA it is valued like a relatively stable consumer durable (which it’s not) – while I could argue that it is a blend of a Fashion Company and an Industrial.
Let’s be clear about something…the concept of “Sell More, Spend Less, Generate Cash” is a 100% unachievable and unrealistic strategy for even the best Consumer brands on the planet.
- Could Apple spend less, while selling more, and generate cash for 2 quarters? Yes. A year? Sure. 2-years? Probably not.
- Could Nike invest less in R&D and branding, sell more kicks, and generate more cash? Apparently not. It tried and failed – Bigly.
- Could Ralph Lauren? No. That’s why it’s part melting ice cube and part value trap. (note: HBI trades at a premium to RL. I think RL is going down, but would own the assets over Hanes any day)
- Under Armour? No way. It’s spending more capital and can’t even grow its’ top line.
- Ditto for Tiffany, Kohl’s, Target, Vince, American Eagle, Abercrombie, Gap, Coach, Kors, Lululemon, Sports Authority, Payless, Radio Shack, Macy’s, Dillard’s, JC Penney, Foot Locker, Best Buy, Bed Bath and Beyond, Williams-sonoma…and pretty much every other company that is or has meaningfully over-earned by underinvesting in infrastructure, branding, innovation, people and marketing.
Does everyone need to jump in there against Amazon to buy streaming rights from the NFL, NBA, or the American Dodgeball Association of America? No. But if a company wants to not only survive in #Retail5.0, but WIN against the next wave of IPOs that nobody even yet knows exists, then they better be spending up to invest in must-have product today, likely at the expense of margins and returns.
Hanesbrands ain’t gonna be a winner.
It’s on track to be a bagel. I like bagels almost as much as I like math.
--McGough
McLean’s Model Call-Outs
The Segment Re-org
Convenient that at the precise time we lap last year’s segment change, HBI announces another. This isn’t like CRI changing its reporting to simplify its retail segment, that made sense and improved analytical clarity; it synched with how that business is run. Even HBI’s change last year was logical when it put wholesale ecommerce into the corresponding wholesale segments rather than DTC. This one however, makes no sense. Why would you move ecommerce DTC sales into the wholesale segments and move hosiery out of innerwear into “other”?
Cash Flow
The cash flow performance was solid, $260mm better than last year, as the guide implied. That’s one of the reasons why the stock is where it is – bc of what the market sees in front of its face. On the call management noted that about half the improvement was simply “timing related” meaning it wil be given back in an upcoming quarter, the other was from “structural” working capital improvements. We’ll be curious so see the 10-Q for more detail on that, particularly the make-up of inventory.
Back Half Organic Sales – THIS is the Big One
The company is baking in big back half organic sales results given that 1Q and 2Q are down and the full year is to be up 0-2%. We think that’s a pipe dream. Management gave a few reasons for the bullish outlook – but none of them quantifiable, nor believable.
- Lapping last year’s catalog exit. (a 50-60bps growth drag, will be lapped in 3Q)
- Back to school weighted more in 3Q. Would explain sequential improvement, but not a reason for 2017 growth.
- Improved trends in various pieces of the business. (anecdotal and unlikely unsustainable)
- Lapping acquisitions. (why would this help organic sales performance?)
- Store closures completed. Not by a long shot. In the #Retail5.0 landscape, the closing of archaic B&M stores is not a one-time occurrence. We should see 3-5% of the wholesale channel evaporate every year.
How about we ask that HBI Wal-Mart salesperson step up on the call and articulate why sales to WMT were down 9% last year, and why he’s telling his boss (who guides the Street) why he’ll ‘get it back’ in 2017?
The below implied guidance sales cadence would get to 0.5% full year organic growth. #hockeystick
Other Conference Call Callout Quick Hits:
- If ‘Booster’ was known in 1Q, and expenses were incurred, why wasn’t it announced with the pre-announcement?
- Management noted we should think of the last decade as building the engine, and now the cash can be generated. How is Capex sub 1.5% of sales for 5 years building the engine? Looks like it was disassembled.
- Part of supply chain work that will produce cost efficiencies is “redesigning our distribution network to more efficiently ship online orders”. Owned online is 2-3% of sales and not growing… this seems like wasted time/capital.
- Cutting headcount and reducing SG&A seems dangerous. Actually, it does not SEEM dangerous…it is reckless. HBI is already lean (thanks to Noll) WHILE organic growth is nonexistent. Cutting costs is not likely to reverse that.
- The $300mm in incremental CFFO seems like a longshot -- and it’s unclear if that is supposed to be on last year’s number, this year’s number, or the “normalized” CFFO run rate of $900mm the company floated out in its last FAQ.
