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Value Idea Contest: "Guess-ing" Your New Position

November 10, 2012 | About:
Chandan Dubey

Chandan Dubey

99 followers
The point of the article is to inform the readers about new opportunities. I myself have enough number of stocks and I am not looking to add any more positions at the moment.

Brief History and Business

Guess Inc. (GES) was founded in 1981 by brothers, Paul and Maurice Marciano. It started as a jean company but is now active in multiple businesses such as producing full collections of clothing for men, women and kids, licensing the brand for manufacturing and distributing a broad range of products that complement the clothing line, like eyewear, watches, handbags, footwear, fragrance, jewelry and other fashion accessories.

As of January 2012, the company operates 504 stores in the US and Canada and 251 stores outside. It also operates an additional 230 smaller-sized stores in Asia and Europe. Guess’ licensees operate 804 stores outside the US and Canada and 119 smaller sized stores in Asia. The licensee-operated stores lets Guess expand their reach with a small capital investment.

The company divides its sales into five categories.

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The major part of the revenue is from retailing in North America and Europe. These together make nearly 80 percent of the sales. This is a mature market. The growth of Guess is coming mainly from Asia.

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The company is comfortably increasing its sales and now has $2.7 billion in sales.

Profitability

Following is the chart of the gross and net margin of the company over the years.

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The company is quite profitable. The gross as well as the net margin have improved over the years. They have been understandably in a downtrend after 2008 but not by much. I don’t see anything alarming here.

Balance Sheet

The company has no long term debt. It has $496 million in cash.

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Free cash flow

The FCF of the company is also on an upward trend. Due to a significant sales increase from 2006 to 2008 the operating cash flow went up and so did the free cash flow. Guess has been able to maintain the increased sales and subsequently in the last year when its free cash flow was $240 million.

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Dividend

Guess started paying a dividend in 2008. The dividend has increased at a satisfactory rate. The history is too small to read into the increase. The dividend section in the annual report discusses no plans to increase or decrease the dividend.



The payment of cash dividends in the future will be at the discretion of our Board of Directors and will be based on a number of business, legal and other considerations, including our cash flow from operations, capital expenditures, debt service requirements, cash paid for income taxes, earnings, share repurchases and liquidity.



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Management

I would not have written this article if not for the management of Guess. The founders of the company are still responsible for running it. Paul Marciano is the vice chairman of the board and chief executive officer. Maurice Marciano is the chairman of the board. Together they own 28.1 percent of the company. The shareholding is shown in the table below.

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The company also rewards share options to its directors/management. As of today, *all* options are underwater. The total outstanding options are shown in the table below.sr6aZd_zAnudBLeNcOZt5wRqxh7Wk3t_M-0bus9O

I am also quite happy with the executive compensation. In 2012 the total compensation was $30.53 million, down a bit from 2011. The summary is shown in the picture below.

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Valuation

The company has $496 million in cash and no long term debt. It sells for less than eight times its FCF at a market cap of $1.9 billion.

Risks

  • Fashion is a fickle business. The demand and appeal of the brand can suffer because of changing customer tastes. This had already happened to Guess once in the 90s.
  • The apparel industry is very competitive and fragmented and the barrier to entry is quite low.
  • Bad economic conditions may adversely impact consumer spending. Also, the continuing difficulties facing the credit market may impact suppliers and distributors.
  • Increase in raw material price can materially affect the profitability of the company.
  • The licensees are not controlled by Guess and their actions can adversely affect the brand.
  • The significant stock holding of the founders may lead to ugly situations if a takeover bid is to be made. They may delay or prevent change in control of the company and the share price can suffer because of non-realization of the true value of the company.


Conclusion

Guess is an apparel company. It has no moat to speak of and operates in a commodity like business with cut-throat competition.

On the positive side, the company has a very strong balance sheet with $496 million in cash and no long term debt. It sells for eight times its FCF and has a market cap of $1.9 billion. Guess has been increasing revenue, earnings per share as well as the dividend. The company is still run by the founders and they own 28 percent of the stock. All the options awarded to the management are underwater and the company has a buyback plan in place.

The company at the current share price of $22 is quite attractive.

About the author:

Chandan Dubey
I invest because I want to be free by the time I reach 40 years of age i.e., 2025. My investment style is to find a small number of bets with large margins of safety. I pay a lot of attention to management and their incentive. Ideally, I like to buy owner operator businesses. I am fortunate to have a strong inclination towards studying. I aid my financial understanding by extensive reading in psychology, economic, social sciences etc.

Rating: 3.3/5 (33 votes)

Comments

kfh227
Kfh227 premium member - 1 year ago
Nice run up since you wrote this.

WIsh I read it when it was first published granted I'd probably have not bought, waiting for a lower entry point.

Please leave your comment:


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