Business Quality and Capital Allocation
DXLG is the market leader in the large and growing big and tall men's apparel market. The men’s big and tall apparel market, which includes pants with a waist size of 42” and greater, as well as tops sized 1X and greater, generates approximately $3.5 billion to $4.0 billion in sales annually. Big and tall men account for approximately 11% of the market in U.S. and the big and tall men's apparel market is growing at nearly twice the rate of the regular size men’s apparel market. DXLG estimates that its current market share is approximately 11% and believes that it have the potential to reach 17% to 20%. The big and tall men's apparel market is currently underserved as retailers such as department stores, mass merchandisers and specialty stores typically offer a limited assortment of sizes and styles, especially for men in the 42-to-46-inch waist size category. Customers within that size range represented 65% of the total big and tall market, but it only made up 20% of its business today.
DXLG's accelerated conversion to Destination XL concept creates compelling growth opportunities for its business. Its superstore concept Destination XL launched in 2010, which merged all of its brands under one roof, has proven to be more popular and successful than its Casual Male XL store, with customers willing to travel further (drive up to 20 miles) and spend more per transaction ($142 for Destination XL versus $101 for Casual Male XL). A typical Destination XL store has twice the store size, more than three times the style choices and double the number of brands compared with a typical Casual Male XL store. DXLG is targeting to optimize the current store mix by increasing the number of Destination XL stores to 225 to 250 and reduce the number of Casual Male XL stores to about 50 by 2015, thereby increasing the share of Destination XL sales as a percent of total sales from 14% in 2012 to 84% in 2015.
DXLG is expecting to significantly increase margins after the transition to Destination XL is complete in 2016, with margin improvement driven by better leveraging of expenses such as occupancy and labor and capturing of additional market share through its one-stop shop concept blending private and name brand apparel. It aims to improve current operating margins of 4% to 5% to greater than 10% and generate free cash flow in the range of $55 million to $65 million by 2016.
Valuation and Financial AnalysisDXLG currently trades at a trailing 12 months P/E of 5.8. In terms of asset-based valuation multiples, its current P/B of 1.37 is at a 17% premium to its five-year P/B of 1.17. DXLG achieved a trailing 12 months ROE of 26.7% and book value per share growth on a 10-year CAGR is flat. PP
DXLG Historical P/E Multiple
DXLG Historical P/B Multiple
DXLG was profitable in seven of the last eight years since fiscal 2005 and delivered positive operating cash flow in every single year for the past decade. DXLG also generated positive free cash flow for four consecutive years since fiscal 2009; however that trend may not continue. Its three-year $150 million investment in Destination XL store rollout is planned to be funded by free cash flow, including the use of approximately $47 million in tax benefits. DXLG has high gross margin stability, with gross margin fluctuating within a narrow range of 43%-46% from fiscal 2006 to fiscal 2012.
DXLG Earnings-Cash Flow Comparison
DXLG Profit Margins Analysis
Financial and Business Risks
DXLG has a strong net cash financial position with a low gross debt-to-equity ratio of 5%.
DXLG cash-debt-market capitalization comparison
DXLG's net number of stores over the next few years will not increase, as it expands the number of Destination XL stores and reduces the number of existing Casual Male XL and Rochester Clothing stores at the same time. Its future success is dependent on its ability to grow its market share in the big and tall apparel market by attracting new target customers, and increasing the volume of sales across various distribution channels: stores, catalogs and e-commerce sites.
DXLG's profitability is impacted by the cost of raw materials, in particular cotton. It will attempt to pass on higher raw material costs to customers for its branded apparel and work with the factories to help mitigate the cost for its private label merchandise. Its stable gross profit margins indicate that the impact of any increase in raw material costs has not affected DXLG significantly.
Approximately 75% of DXLG's merchandise is manufactured specifically for Casual Male and its customers, and it is therefore dependent on third party manufacturers’ ability to fulfill merchandise orders and meet delivery terms.
ConclusionDXLG's growth is relatively low risk, given that it has negligible debt and strong free cash flows to fund store expansion. Valuations are reasonable at 5.8 times P/E and 1.4 times P/B.
DisclosureThe author does not have a position in any of the stocks mentioned.