I’ve made no secret that have been liking LIZ more and more in the mid/low teens. My Partner Keith McCullough cautioned me on the timing of the call given his near-term view (based on quantitative models) that it was headed to $12. Well, today it hit 12.50. Lesson learned… Respect timing.
Enough excuses. Let’s evaluate the model as it exists today. My view has been based not on strength in the business, brands, or industry positioning. But simply that this company was so poorly run for so long, and with a 40%+ SG&A ratio has among the biggest cost levers to pull in the business – by a long shot. The board has changed incentive targets for ’09 to be the breakout earnings year, and my view is that we’re at a point where either a) CEO’s (on the job for 1.5 yrs) recent investments start paying off in the form of profitable growth, b) growth does not come, so LIZ pulls back on costs and prints higher margin, or c) new CEO becomes ‘old’ CEO.
Believe it or not, we’re actually making progress in climbing the decision tree.
A) We know that growth is not working. Period. Now we move on to the next branch.
B) Pull back on spending and print higher margins? I definitely heard management move forward here to some degree. Inventory in the quarter was –26%, and more importantly, LIZ cut its capex budget by 7% for this year, and will cut store growth (Lucky, Juicy, Kate Spade) by 50% in ‘09.
What this basically told me is that LIZ is thinking “maybe we really don’t have the right to grow after all. Let’s fix the capital base we already have in place, increase debt paydown, and focus on margins.” Granted, I’d rather see growth plans come down by 100%. But it’s a start. Hindsight shows that most ‘Big Ideas’ for mature retailers over time have stemmed from this type of action.
The flip side is that the company is hiring people left and right. As much as it seems to get the ‘capital allocation focus’ on its balance sheet, there seems to be a complete disconnect on the P&L.
What’s the earnings power? Take capex down by 50%, close 25% of retail stores, write off another half of the core brand, and get rid of Mexx. Even if at a fire sale price. We’re seeing a bid at some price on mid-upper tier assets as evidenced by Li & Fung buying Van Zeeland today. That gets me to near $3 in EPS power on a reduced capital base.
The problem is that the plan I just articulated does not synch with management’s plan as outlined this morning. One of us has gotta give.
The bottom line is that the timeline for getting to the next branch on the decision tree is extremely close. I’m not talking 3-4 quarters. I’m talking 1. Time is running out for this team. Either capex comes down further and we see more discipline on the P&L, or the Board needs to cut bait on this team.
The market will not be patient here, and though I rarely bow to the broader tape -- in this case I agree.