HBI | Press It

The Print
The headline was in-line, but this wasn’t a good quarter for HBI. With Champion up 50%, and C9 growing 8%, the company managed flat EBIT and flat EPS. With C9 going away in 6 months, Innerwear pressure intensifying, and Champion slowing, we struggle how the long term earnings production is going anywhere but down. The trend set-up for the short today is as good as we have seen in the last 12months. The Street is meaningfully above where the company is likely to come in across durations. We think HBI misses 2H by 9%, next year by 24%, and 35% in 2021. Yes, the name looks cheap, but for a levered retailer, looking cheap is meaningless. Just look at Michaels or Bed Bath & Beyond. Share losing, manufacturing based, apparel companies have traded hands at multiples as low as 3x EBITDA – if HBI hits 5x, then there’s no equity value left. I don’t think that Hanesbrands the company is terminal, but I think the equity is. Any and all value here accrues to bondholders.

Revenues

Innerwear

• Innerwear was down 2.3%, not bad for HBI given the average over the last 10 quarters is down 3.1%. The 2 year trend was basically steady.
• There’s something off about the commentary for HBI Innerwear business.  The company cites space gains, improving intimates, increased pricing, innovations driving basics performance, Champion Innerwear ‘growing quite fast’ and the top innerwear customers (WMT and TGT) are seeing notable traffic gains.
• Yet the last three Qs of the year are supposed to see Innerwear down ~2%.  The question an investor should ask here though is why isn’t Innerwear performing better? And, will it ever perform better?
• Management pointed to $16mm in sales pressure from bankruptcies (essentially the entire YY decline) yet we could see that being offset purely by the DG sock program, then pricing actions were in place this Q, that’s another 100-200bps help. Door closures as supposedly being ‘lapped’ in 2H, so why then is Innerwear -2% with management sounding so bullish?
• Simple answer, it's losing share, same as it has been for the last 5 years.  Door closures are not one time, the company talks about lapping them every year, HBI’s distribution is a dying channel. WMT and TGT are likely to see slowing traffic in 2H, and we think the George brand launch at WMT will put significant pressure on HBI unit share.  We see shelf space gains for George vs Gildan in WMT stores ranging from 50-200%, with superior placement vs old product.  And GIL announced today that the shelf space for the George program will expand again in 4Q.  HBI is losing between 5 and 15% of its shelf space inside WMT by our math, and we think the unit share risk is even higher.
• Also, though Sears is not in guidance, the company is still selling some product to Sears (<5mm in 1Q, undisclosed this Q), so it’s still helping the 2019 results.
• We think Innerwear performance will weaken from here and miss 2H expectations.

Champion
Champion slowed ~2500bps to 50% from 75% last Q.  The slowdown was signaled, so that was a beat vs guide/expectation, but still ~900bps slowdown on a 2 year basis.  We still see Champion as a liability as continued slowing and the chance of the retro 90s fashion fad cracking will send the stock lower.

• US – Champion Activewear slowed to 50% from 80% last Q.  Champion was 165% of Activewear growth, and c9 added another 10-15mm, meaning the rest of Activewear was down ~mid-teens. We think the distribution and inventory in US retail is nearing capacity, and think there is risk that sales stall domestically by mid 2020.  (see our note HBI | Champion Distribution Case Study)
• International – Champion International slowed to mid 40s from ~70% last Q.  It added $60mm in international revenue with C$ revenue only up $55.  The company says Bras N Things is doing well, which begs the question how bad are the old DBA and Pacific acquisitions performing today?  We think not so good.
• The most bullish datapoint from this entire event was around the growth opportunity of Champion internationally.  The company has signed an additional partner to penetrate China and stated it sees China becoming the 2^nd biggest market for Champion.  Champion international (and specifically Asis) is definitely the part of the model we have the least visibility in, especially since it won’t likely track identically to the brand perception in the US.  And perhaps there is still years of growth here. However we don’t think the magnitude can be big enough to outweigh the losses in the rest of the company.

C9

• C9 grew 8% adding ~$10-$15mm in revs, good for the quarter, but bad for future earnings since that will most likely all be zero by this time next year. 
• The company still has no deal for C9 as it departs TGT in just 6 months.  Though the FAQ commentary was softened to be less bearish stating simply “no update” vs “do not have any plans in place”.

Private Label - Walmex 2020

• GIL announced today that in 2020 it will be launching a private label program with WMT in 5 international markets of Walmex (ex Mexico). (George program to date has been US only).
• HBI’s Walmart exposure in international isn’t big, but it does do business internationally and the private label program means shelf space risk.
• Remember, according to HBI Management, private label is not a risk. According to GIL/NPD on the US market "Private label underwear at retail is growing dramatically over the overall market based on NPD. Private label underwear is now the third best selling underwear, and it's also growing heavily in socks as well, and we think that that's going to continue to grow as we go into the future as these retailers keep developing more brands."

Margins

• The commentary from HBI management sounds super margin bullish.  Champion margins improving, removing low margin Activewear lines, taking price increases, margin accretion from Bras N Things.
• Yet we gross margin down 10bps on an easier compare, and operating margins down 30bps. 
• We understand that the company is spending more for growth, but we don’t think we will see leverage on investments, particularly within innerwear as share loss and unit declines will be a big drag on this high incremental margin business.
• The Activewear margin saw clear improvement, with the incremental margin rising to 27% (keep in mind we think C9 is higher margin and that grew this Q), but the Innerwear decremental margin came in at 60%. 
• We don’t see a path to long term profit growth unless Innerwear can grow, and we don’t think we will ever see sustained Innerwear growth.

Tariffs
We just got the Trump threat of 10% tariff on list 4 goods starting Sept 1.  HBI doesn’t have huge China sourcing exposure today, just 3% of COGS according to the company. But a tariff on list 4 will be inflationary for any global sourcing done outside of China, particularly in Asia due to capacity constraints.  Li and Fung recently said Vietnam capacity was completely filled. So the price of sourcing in Asia, where HBI sources a significant amount of COGS, will head higher if a list 4 tariff is implemented.

Inventory
Sales to Inventory spread got worse on the margin.  That’s on an easier inventory compare too.  Perhaps there is some building risk here with inventories getting higher, especially since we think Champion product is getting overstocked in the US wholesale channel.  We got a potential signal of that from URBN discounting Champion product.  At the same time you would think the company could be scaling back C9 inventory since sales should be rapidly declining from here on out.