HBI just put up its second-biggest single-day gain in the company’s history. Every 6-9 months you get another shot to step up and short this name – a name that I think has clear terminal value, but over a TAIL duration that EV manifests itself 100% in debt. In other words, it’s ultimately a zero. Today we got that shot to step up short side. Don’t get me wrong…I’m not happy we got another amazing shorting opportunity. I’m livid. I hate losing, and even though we have done quite well with this name, today I lost big time. Let’s step back and consider what’s changed and risk-manage the roadmap from here. A few considerations….
- This was the best absolute quarter we recall since being short this stock at $29, so perhaps the stock reaction is deserved to a certain extent given HBI’s long standing trend of disappointing over and over and over again. Management actually delivered on what it said it’d do – and though I think it has one of the poorest internal forecast accuracy processes of any company I know – this Q it definitely got the job done. Perhaps it was sheer luck. But this market can’t discern the difference.
- It actually put up a growth/cash flow algorithm that’d otherwise be expected from a real company – one that is far from terminal. Organic sales growth of 6%, EBIT growth of 12.2%, CFFO growth of 55%, and FCF of 2x last year’s 4Q. This is absolutely unsustainable (and below original guide) – but on the day, it looked great.
- On top of that, the company repeatedly talked about paying down debt – the biggest positive of the quarter. It’s easy to say that when you put up numbers consistent with a cyclical peak – but they were definitely welcome words to hear – and was likely one of the core factors that drove the name to end on its highs.
- Biggest fundamental positive is that Champion continues to rip despite tough comparisons. The ‘retro athletic throw-back’ trend is still killing it. It needs to kill it again, and again, and again to put up a respectable earnings algorithm next year, and I won’t bet on that – though it is in our Bull case scenario that suggests only $1 upside from here.
- The rev vs EPS guide is notable (the former up, the latter down). Our contention is that lost revenue from C9 and innerwear will not be able to be replaced by growth of Champion globally. Note the Innerwear decremental margin was 65% this year; the incremental margin of Activewear was 2%. We likely need at least $2 in Champion sales to make up the profit for a lost $1 of Innerwear sales (perhaps much higher). So I still struggle to see how we see anything other than 10-20% EBIT decline risk in 2020E.
- The Cash Flow result, coming in towards the low end of the reduced guide was still impressive with $500+ in CFFO and $260mm of working cap freed in 4Q. The guide is also high, though we struggle to see where another $160mm in working capital would come from with acquisition levers finally gone.
What’s interesting to me is that the short interest heading into the print was the lowest we’ve seen in two years. Today’s performance was not a simple short squeeze. Someone was actually buying the stock today. This falls squarely into the ‘what could they be thinking’ bucket. Aside from simply thinking, lets talk about modeling. In stress testing every line of the model, we’re coming up with a base case EPS/EBITDA number that is 33% below consensus for 2020 – which is the year that decremental margins associated with lost business will hit HBI the hardest. That suggests a stock of $11-12. Along those lines, we’re seeing the private label outsourcing trend accelerate materially (which accrues to GIL) and is a major secular headwind to #oldschool branded players like Hanesbrands. Lastly, the company is substituting sub-par growth in profitable US innerwear with weaker-margin businesses in Europe and Australia – that are not only less defendable, but are also in geographies with weakening Macro fundamentals.
If we ‘bull the heck’ out of our 2020 model, we get to a $19-$20 stock price over 12-18 months. Yes, that’s 5% from where the stock closed today. A base case model gets us to $11.50, or about 40% downside. A bear case model – which can happen without an economic downturn – gets us to a whopping $5 in Equity Value. A recession takes Equity Value to zero – unless HBI sells Champion with its fair share of debt – and even then mid-single digits will be a stretch.
McLean’s Tear-Down of the Quarter
The Breakdown of Thoughts by Business.
Innerwear:
- Smart that the company tempered expectations to -2%. But that’s admitting that the highest margin business is shrinking, and we don’t think it brought down the expectation enough.
- After an anomalous 4Q, we’re back to the same -3 to -4% innerwear run rate in 1Q, we expect that rate to continue throughout the year.
- Price increases are a 150-200bps help after 1Q, but with door closures continuing, c9 shrinking, and competition with WMT’s new private label business heating up in 2H will all keep innerwear underperforming.
C9:
- Revenue is doing what we expected. Slowed in 4Q, 2019 guided to high-teens decline with 2H weighting is right around what we thought we’d see as TGT winds down C9 store footprint. If anything we think TGT might make that wind down slightly larger at Q end.
- The part we’re not sure if we have exactly right is the C9 margin profile. The commentary around Activewear margin stated “American Casualwear sales are expected to decrease primarily in the second half, as the company shifts to higher-margin products. The company expects significant margin expansion for the Activewear segment for the year with expansion in each quarter.”
- That seems to imply that any incremental $ will come in at a materially higher margin than any lost $. Perhaps “casualwear” is very low margin, but we’re bringing down (less negative) our decremental margin on C9 product slightly.
Champion US:
- 50% growth is impressive, we haven’t seen the exact number disclosed in the past, but last Q the company noted that Champion US grew better than the global rate of 40%, so its prob fair to say we saw a similar growth rate this Q.
- With Champion still growing on tough comparisons, we have to ask ourselves how real of a grower can Champion be? The brand is celebrating its 100yr anniversary, so we have to remember its boomed and died in the past.
- Can this 90s throwback trend really grow for another 2-3 years keeping HBI targets as plausible? Maybe, but the product can be found everywhere, so how does it grow distribution? Maybe KSS wants to double or triple its Champion floorspace in new larger Active section stores?
- The company says its growing everywhere “sporting goods retailers, midtier department stores, specialty retailers, college bookstores, online, and company-owned stores”.
- We’ll give it some higher growth given it has some visibility that we don’t, but think another similar growth year is unlikely.
Champion Intl:
- Growth of ~50% internationally based on commentary, again impressive with comparisons remaining difficult. The company didn’t callout any material weakness for Champion in Europe despite hearing several competitors talk about very weak winter outerwear sales. Maybe that’s bullish that it didn’t impact HBI, or maybe Champion gets hit on replenishment.
- This fall/winter selling season was the peak indicated for Champion hitting 1000 Northern Europe distribution doors up from 100 in 2017. We don’t see that distribution growth being replicated in 2019 in Europe that Champ Europe starts slowing in 1H19.
Other Intl:
- Europe innerwear was a weak spot this Q, and we think that remains at risk with the Europe macro outlook still negative.
- The bullishness around Australia and Asia was interesting. Australia is an area where we are just recently getting negative retail sales data points as our macro outlook on the economy is several quarters of slowing, with the risk of an impending housing collapse building.
- Maybe HBI has plans to stuff channels with Bonds product, but we don’t see underlying demand getting better down under.
- International overall looks like the most likely segment to show a miss in 2019.
