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Dick's Sporting Goods - A Swing at Top-Flite

April 05, 2012 | About:
The Science of Hitting

The Science of Hitting

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Both Callaway Golf (ELY) and Dick’s Sporting Goods (DKS) have issued press releases indicating that Callaway has sold the Top-Flite intellectual property rights (including trademarks and service marks worldwide) to the retailer for the price of $20 million in cash. This is an interesting transaction for a couple of reasons:

First, Dick’s has made it clear (most recently at an investor conference in September) that they want to increase private brand penetration (goal of 20% of sales) as part of a plan to accelerate margins. With Top-Flite, they are buying a brand that is well known among golfers in what I would describe as the “value” category of golf equipment; with 480 Dick’s and 81 Golf Galaxy locations at the end of fiscal year 2011, my assumption is that they would use their retail presence to bring this known brand in house and pull it from places like Walmart (WMT). In the words of CEO Edward Stack, “We've added a strong, highly recognized name to our portfolio while gaining a valuable competitive advantage in the golf market."

In addition, the purchase price is just a drop in the bucket for DKS, at less than 10% of 2011 net income. More importantly, they bought it from a somewhat desperate seller in Callaway, which paid $169 million for the assets of Top-Flite nine years ago (the deal in 2003 included manufacturing assets and the assumption of debt, so be aware that this is not an apples to apples comparison) and is looking to dispose of their non-core offerings.

While I think Callaway is somewhat desperate to make this transaction, I feel it’s a step in the right direction. For one, the company lost more than $180 million last year and has been in the red each of the past three years; as such, the extra cash buffer will shore up the balance sheet that much more, which is always important for a company going through a period of distress.

Secondly, and more importantly, I think the writing is on the wall that a relatively small company like Callaway is being pushed by the industry towards a concentrated brand strategy (they also disposed of the Ben Hogan brand earlier this year). TaylorMade-Adidas, which has the luxury of being supported by the second largest sports apparel company in the world, recently acquired golf equipment manufacturer Adams Golf for $70 million to diversify their product offerings; Callaway is not in a position (particularly after the struggles of the past few years) to extend financial support across multiple product lines beyond its core brands. As noted by CEO Chip Brewer, “The decision to sell Top-Flite reflects the Company’s renewed focus and commitment to driving the proficiency of our core businesses, specifically the success of Callaway and Odyssey products.”

Which might not be the worst thing; Callaway continually ranks among the top in Golf Digest’s annual rankings, but still has struggled to gain share against their larger competitors. With this recent move, hopefully the company can move their focus away from relatively unimportant brands (management said 2012 net income wouldn’t be materially affected by the sale) and put all their resources behind their two most valuable assets: Callaway and Odyssey.

About the author:

The Science of Hitting
I'm a value investor, with a focus on patience; I look to buy great companies that are suffering from short term issues, and hope to load up when these opportunities present themselves. As this would suggest, I run a fairly concentrated portfolio by most standards, usually with 8-10 names; from the perspective of a businessman rather than a market participant / stock trader, I believe this is more than sufficient diversification.

I hope to own a collection of great businesses; to ever sell one, I would demand a substantial premium to the average market valuation due to what I believe are the understated benefits to the long term investor of superior fundamentals and time on intrinsic value. I don't have a target when I purchase a stock; my goal is to replicate the underlying returns of the business in question - which if I've done my job properly, should be very attractive over many years.

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