Stock Sonar

  • Each week, we post interesting highlights from our bottom-up research
  • If we come across a tactical trade idea (about twice a month), we post it here
  • Most posts are meant to be informational

Stock Sonar #6 - 5/10/2023

Hanes Brands (NYSE:HBI) mrkt cap $1.47B; Price $4.21; trailing P/E na

EXITED. Last month we wrote to readers that we were taking a small tactical position in this name. HBI is high risk—it is overleveraged with ~$4B of mostly variable debt. Our working thesis is that they will work through their 500mm of inflated inventory and create enough cash flow to survive until they reach a more normalized environment. HBI reported earnings last week and innerwear sales were stronger than expected, however activewear sales were down ~18% q/q. Although we are still convicted in their innerwear segment, the activewear segment is now more of a question mark. The position is down 20% since purchase and we are exiting and waiting for a more favorable risk/reward skew before entertaining reentry. We believe the company will internally generate the cash it needs to survive but it is less clear than we originally thought.

Graftech (NYSE:EAF) — mrkt cap $1.07B; Price $4.19; trailing P/E 4

PASS. Graftech manufactures graphite electrodes that are used in electric arc furnaces (EAF) to produce steel.  EAFs are gaining share on Blast Furnaces due to the secular trend of decarbonization (EAFs use scrap steel to make other forms of steel whereas Blast Furnaces use coal to make virgin steel). Additionally, Graftech benefits from vertical integration, giving it control over its petroleum needle coke supply, a critical component for manufacturing graphite electrodes. Supply of petroleum needle coke is limited outside of China. The reason we write outside China is because there are no verifiable numbers of the petroleum coke China produces and by association, how many graphite electrodes they can produce. We suspect whatever that number is, it will continue to grow providing an enduring headwind for Graftech. Despite the potential growth opportunities, the lack of visibility on the supply side prevents us from viewing Graftech as a viable investment opportunity.

The Container Store (NYSE:TCS) — mrkt cap $151mm; Price $2.99; trailing P/E 4

PASS. The Container Store is a specialty retailer of containers and closets. Its brand is well loved and it has about 100 stores generating about $1B/year in revenue. About 50% of revenues are generated by private label and can be seen by high gross margins of about 60%. Although it has a great brand with a durable moat, TCS’s leverage gives us pause given the macro environment. It has about 200mm in long-term debt and current liabilities and most of its current assets are in inventory. Despite this, TCS continues to be aggressive with store expansions having spent almost $50mm in store expansions and additions the last three quarters. While valuations look attractive, our view is management needs to adopt a more conservative stance on capital allocation.

Stock Sonar #5 - 5/3/2023

Western Union (NYS:WU) – mrkt cap $4.13B; Price $11.90; trailing P/E 5.0x

HOLD. We originally posted this as a tactical “buy” trade idea on 4/19. The stock popped today about 12% after earnings were announced and the company beat on both top and bottom line. We believe that WU will be a benefit from the thematic change of companies no longer being able to use ‘capital as a weapon’ as they did so freely in a ZIRP world. Profitable industry incumbents like WU that have been losing share to profitless competitors are discovering new advantages – being able to internally finance promotional activities and growth projects in the face of constrained competition. We believe Western Union will be able to increase share with their digital business as a result of their tech investments and promotional activities.

Tempur Sealy (NYS:TPX) — mrkt cap $6.3; Price $36.59; trailing P/E 14x
PASS. TPX manufactures and sells mattresses under the brands ‘Tempur Pedic, ‘Sealy’, and ‘Stearns and Foster’. Generally, this is a sleepy industry, however, competitive dynamics look to be swinging in TPX’s favor. TPX’s largest competitor, Serta, filed chapter 11 at the beginning of this year. Other competitors such as Purple and Casper are not faring much better. TPX is better capitalized and stands to gain share as bed purchases are driven by advertising budgets. It is trading at slightly higher multiples than we would like given the discretionary nature, pull forward in demand, and recessions risk. We will look to initiate a position in the event of a pullback.

Stock Sonar #4 - 4/26/2023

Whole Earth Brands (NAS:FREE) — mrkt cap $99mm; Price $2.30; trailing P/E NA

STARTER POSITION INITIATED. FREE is a consumer food company that has faced significant challenges with its sweetener business, resulting in an ~80% drop in share prices. The sweeteners business is highly competitive and will likely see continued volatility, however, the cash cow of FREE is the licorice segment of which they have 70% market share (used in cigarettes, cosmetics, and pharmaceuticals as a moistening and flavor agent). Gross margins have expanded to 28% from 20% a year ago, with ample runway for volume and price increases. Given ongoing SKU rationalization of the sweetener segment and recent management changes led by activist Michael Franklin – who has an ownership stake of 22% – we believe FREE is a compelling risk-reward. We have initiated a small weighting.

Viad Corp (NYSE:VVI) — mrkt cap $372mm; Price $17.88; trailing P/E 34

PASS. Two wholly separate businesses under one roof. ‘Pursuit’ is a portfolio of hotels in attractive destinations where new supply is constrained (Banff Jasper Collection). ‘GES’ is a provider of exhibition experiences for corporate events. PE firm Crestview Partners has significant preferred share ownership (with control) in VVI, and we believe they are intent on incenting management to build up the GES business and spin it off to unlock value. VVI’s hotel business is capex intensive, and they will need to see the return of the long-haul traveler to reach potential. Valuations relative to cash flow are not yet compelling.

Koppers Holdings (NYSE:KOP) — mrkt cap $676mm; Price $32.45; trailing P/E 11

PASS. KOP has a leading market share in the railroad tie and utility pole industry. The industry is a duopoly, with Stella Jones, a Canadian-based company, being their main competitor. Both firms are increasing capacity to take advantage of the nationwide 5G rollout along with tailwinds from the infrastructure bill. Although this industry seems ripe for tacit collusion, given the stability of the industry and homogeneity of products, KOP and Stella’s gross margins have been stuck at an anemic 17%. Given the capacity additions and competitiveness between firms, we will remain out of this name.

Stock Sonar #3 - 4/19/2023

Western Union (NYS:WU) – mrkt cap $4.13B; Price $11.0; trailing P/E 4.7x

STARTER POSITION INITIATED. Not often do you see an investment grade company trading at 4.7x earnings. WU is the global leader in cross border remittance payments. Their vast and impressive global distribution system along with their commitment to the dividend (~9%) was enough to give it a close look. According to the World Bank, the remittance market has grown over the last several years but WU’s revenue growth has been anemic. There has been a rise in cross border digital trends that has been stealing share and despite WU’s efforts to building a strong digital platform, they are falling behind their competition. Although this is cause for concern, we believe the fears around existential threats are overblown. We are initiating a starter position. Our call with IR/management next week should help us fill the gaps in our knowledge regarding their revenue stabilization strategy.

TFF Group (XPAR:TFF) — mrkt cap €867mm; Price €40.80; trailing P/E 16x

PASS. TFF produces barrels for wineries and bourbon/whiskey distilleries. Due to high working capital requirements – such as the wood needed to be aged for several years – the industry has seen consolidation with TFF being one of the larger players. TFF Group will make over €400mm in revenue for 2023, growing more than 30% from 2022. A large part of TFF’s recent growth has been from a boom in bourbon production with the number of distilleries in USA going from 50 in 2006 to 2100 distilleries today, a CAGR of 26%. Consumer demand for the various alcohols is cyclical and we believe bourbon could see a significant retracement, similar to what happened with vodka in the early 2000s. While TFF has significant competitive advantages, the not-so-cheap multiple along with the hard-to-predict cyclicality will keep us out of the name until a better entry point.

IDT Corporation (NYS:IDT) – mrkt cap $829mm; Price $32.5; trailing P/E 17.6x

PASS. IDT is a mini-conglomerate composed of in point-of-sale services, remittance services and telecom. It has a long history of building up business lines and selling them along with a robust culture built on good capital allocation decisions. The p/e multiple of 17x seems reasonable given certain legacy business lines and their payment solutions business growth. However besides good management, it is difficult to gauge the competitive advantage of the different business units. Furthermore, the business units are not remotely synergetic. Although it seems like this is a well-managed business that could deliver for shareholders, we need both a good jockey and a good horse before greenlighting.

Stock Sonar #2 - 4/12/2023

Capri Holdings (NYSE:CPRI) – mrkt cap $5.5B; Price $43.73; trailing P/E 6.4

PASS. Capri Holdings is a fashion company that owns Michael Kors, Versace, and Jimmy Choo.  CPRI has lagged peers with its share prices staying flat over the last decade. This was due to Kors diluting their brand by over expanding into wholesalers such as Macys and Nordstroms (revenue from wholesale increased almost 4x from 2012 to 2016!). Owner-operator John Idol is committed on returning Kors to a premium aspirational luxury brand by using the same playbook as peer fashion brand Coach: elevating the brand through increased quality, reducing wholesale footprint making it more exclusive, and increasing prices. CPRI’s other brands Versace and Jimmy Choo fortunately do not suffer from the same brand impairment; CPRI plans to grow them in a measured fashion by increasing both the store footprint and brand extensions. We have initiated a small weighting in Capri Holdings.

Ralph Lauren Corp (NYSE:RL) – mrkt cap $7.95B; Price $120.40; trailing P/E 16.2

MORE RESEARCH NEEDED. RL is an iconic brand that has struggled to grow in large part due to its closure of discount outlets stores and reduction in wholesale distribution. Bears believe brand equity is impaired–we don’t think so. RL’s plan to grow sales includes several measures: 1. RL aims to increase penetration of women’s wear sales, which currently account for approximately 30% of the company’s sales 2. RL plans to increase its DTC retail presence in Asia 3. Finally, RL plans to increase its millennial penetration through a significant increase in digital ad spend. This strategy has seen signs of traction, but we are still in the early stages of a full analysis.

Yellow Corp (NAS:YELL) – mrkt cap $100mm; Price: $1.93; trailing P/E 4.6

PASS. Yellow Corporation is in the hyper cyclical trucking industry (‘Less Than Truckload’ shipping). The industry is currently in a cyclical downturn and overleveraged companies like Yellow are starting to burn cash–roughly $40mm a year. We estimate the company owns hard assets (12,000 tractors, 33,000 trailers, 167 terminals) worth north of $2.6B and their debt (along with unfunded pension liabilities and other liabilities) is currently ~$2.2B. This would bring equity value to ~$400mm and the current market cap is $100mm, almost a 3X ROI. Equity holders also retain some security against unfriendly management policies given they are invested alongside the US Treasury who is a major shareholder at 30% ownership (yes, you read that correctly). There is potential upside but without a catalyst to unlock value we will remain on the sidelines.

Stock Sonar #1 - 4/5/2023

Hanes Brands (NYS:HBI) – mrkt cap $1.83B; Price $5.25; trailing P/E na

SPECULATIVE POSITION INITIATED. HBI is one of the largest producers of innerwear. They used debt capital to go on an acquisition spree from 2012-2018 and inorganically increased gross income from ~30% to 38%. This has now caught up with them—the brands they acquired are undernourished and variable interest payments have increased dramatically. FCFE margins are thin (roughly 6% of revenue) and any volatility in cost structure would see them evaporate. Channel stuffing in 2022 hurt them but should be alleviated soon as retailers work through inventory. Despite the uncertainty, we have taken a small tactical position given the upside for this company could be dramatic if management executes on their ‘Full Potential’ plan. If the name sells off violently, we will look to add more.

Medifast (NYS:MED) – mrkt cap $1.08B, Price $99.8, trailing P/E 7.8x

PASS. Medifast is centered around a line of weight loss products all under the Optivia brand. While they fit the health and wellness trend nicely, we do not believe in MLM as a reliable distribution mechanism. In addition, last year had revealed some topline softness. Recent price increases won’t help as this is likely a price elastic product category. The valuation is tempting but we cannot say with conviction cash flows will continue to be healthy.

FUNKO (NAS:FNKO) – mrkt cap $440mm; Price $9.27; trailing P/E NA

PASS. Funko makes pop culture collectibles for adults. Funko generates $1.3B in sales with about 30% gross margins. Although these collectibles are well loved and have a good track record, predicting future consumer demand is difficult as collectors are the main demographic. Additionally, there were operational mishaps and the CEO was replaced by the founder and the CFO stepped down. The difficulty of forecasting demand will keep us on the sidelines.