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Mark Yu
Mark Yu
Articles (232)  | Author's Website |

Missing Value in This Home and Décor Retailer

Luxury retailer outperforms despite underperformance in operations

March 19, 2017 | About:

This $1.37 billion specialty retailer had underperformed as it returned a 20% total loss to its shareholders in the past three years, but has outperformed the broader S&P 500 so far this year by three percentage points.

Earnings performance

In February, Restoration Hardware (NYSE:RH) delivered its fourth quarter and fiscal 2016 results. For 2016, the retailer delivered 1.23% sales growth to $2.13 billion and a whopping 94.8% profit decline to $4.71 million from the year prior.

Meanwhile, adjusted net income, a non-GAAP measure, for the period declined by 55% from fiscal 2015 (1).

(News release, Restoration Hardware)

As observed, Restoration Hardware, which has the name of RH, recorded several impairments ranging from product lines and aircraft to reorganization costs.

For example, it recorded impairment charges related reorganization of its RH Contemporary Art and RH Kitchen. Restoration Hardware also included a non-cash $6.84 million adjustment in relation to its Waterworks, which it acquired in 2015 for about $117 million.

Gary Friedman, chairman and CEO:

"As we exit fiscal 2016, we are now through the most uncertain stage of our transformation. As previously communicated, we have made several strategic investments and changes to our business model in fiscal 2016 that temporarily depressed financial results in the short term, and that we believe will strengthen our brand and position the business for accelerated growth in 2017 and beyond. These temporal issues include the costs related to the launch of RH Modern (approximately $0.30 per share); the timing of recognizing membership revenues related to the transition from a promotional to a membership model (approximately $0.25 per share); efforts to reduce inventories and rationalize our SKU count (approximately $0.45 per share); and the decision to push our 2016 Source Book mailing from the Spring 2016 to the Fall 2016."

Despite the terrible profitability shown in fiscal 2016, Restoration Hardware shares sprung 24.4% the following day on seven times the volume the day prior while the broader S&P 500 closed up 0.15%.

Valuations

Restoration Hardware trades at a very rich trailing earnings multiple premium compared to its peers, at 48.6 times versus the industry median of 20 times, according to GuruFocus data.

Meanwhile, expectations that the retailer’s share price is cheap right now because of its forward earnings should also be noted. The retailer has a forward earnings multiple of 16.4 times versus its three-year average of 65.8 times.

Restoration Hardware also had a price-book value ratio of 1.5 versus the industry median of 1.69 and a price-sales ratio of 0.64 versus the industry median of 0.75.

Restoration Hardware

According to a company filing, Restoration Hardware Holdings is a leading luxury retailer in the home furnishings marketplace and was formed on Aug. 18, 2011. 

As of Jan. 30, it operated a total of 69 retail galleries throughout the U.S. and Canada.

The company offers dominant merchandise assortments across a growing number of categories, including furniture, lighting, textiles, bathware, décor, outdoor and garden, tableware, and child and teen furnishings.

In previous fiscal year ended January 2016, Restoration Hardware had two segments:

(10-K, Restoration Hardware)

Furniture

Furniture includes both indoor and outdoor furniture. In the previous fiscal year, furniture sales grew 16% to $1.3 billion, or 61.4% sales.

Non-furniture

Non-furniture includes lighting, textiles, accessories and home décor. In the previous fiscal year, non-furniture sales grew 8% to $813.5 million, or 38.6% of total sales.

Including its preliminary figures for fiscal 2016 in the recent three years, Restoration Hardware had sales, profit growth and margin averages of 11.5%, 103.6% and 3.1%, respectively.

Cash, debt and book value

As of January, Restoration Hardware had $281 million in cash and investments. Exact debt, equity and book value figures were not retrieved as per the company’s news release.

In October, Restoration Hardware had $761 million in debt including capital leases with a debt-equity ratio of 0.84 versus 0.93 the year prior, according to Morningstar data. The retailer also had 12.8% of $2.16 billion assets in goodwill and intangibles, having had a book value of $902 million versus $839 million in the year-earlier period.

Cash flow

(10-Q, Restoration Hardware)

In its nine months of operation to October 2016, Restoration Hardware delivered a more unfavorable $29.1 million in cash outflows compared to $17.63 million of outflows the year prior.

In addition to its losses from sales, the company also had more cash outflows related to its prepaid expenses and other assets, accounts payable and accrued expenses, and other current liabilities compared to its prior year of operations.

Restoration Hardware allocated $187 million in investment purchases and retrieved $147.8 million from sales and maturities of these investments.

(10-K and 10-Q **excluding purchase of convertible note hedges, Restoration Hardware)

As observed, the retailer barely generated free cash flow in recent years and had $8.4 million last fiscal year. Nonetheless, the company did not seem to have added any outstanding debt as of October.

Conclusion

Surely, Restoration Hardware along with its peers in the retail sector have suffered business slowdowns in recent years. The retailer not only started to deliver weak profitability recently but also reported flat profit growth for fiscal 2015 despite modest sales growth, brought on by increases in sales and administrative and interest expenses.

Despite the broader weakness observed in the retail industry, Restoration Hardware was able to reduce leverage in its balance sheet as per its October quarterly filing.

Nonetheless, the retailer had difficulty demonstrating positive overall free cash flow in recent years.

(Restoration Hardware share price and p/s ratio, GuruFocus)

In February, KeyBanc Capital Mkts upgraded its outlook on Restoration Hardware to Overweight, while Buckingham Research downgraded the company to underperform from neutral. RH gathered an average price target of $37.21 a share, or 10.9% upside from today’s share price.

Given the company’s recent poor performance, time will tell if Restoration Hardware could continue to outperform the overvalued broader S&P500 index.

In summary, Restoration Hardware is a pass.

Notes

  1. Restoration Hardware uses a non-GAAP measure, among others, adjusted net income to assess its business performance.

10-K: Adjusted Net Income.

We believe that adjusted net income is a useful measure of operating performance, as the adjustments eliminate non-recurring and other items that are not reflective of underlying business performance, facilitate a comparison of our operating performance on a consistent basis from period-to-period and provide for a more complete understanding of factors and trends affecting our business. We also use adjusted net income as one of the primary methods for planning and forecasting overall expected performance and for evaluating on a quarterly and annual basis actual results against such expectations.

Disclosure: I do not have shares in any of the companies mentioned.

About the author:

Mark Yu
A doctor in physical therapy (DPT) with a passion for finance. Value seeker. Long only. Global investing. Long-term investing.

Attempts to dissect company filings one company a day.

For quicker reading--jump ahead to an article's conclusion.

One company (review) a day keeps the speculation (hopefully) away.

Would typically invest $500 to $3000 of own money per buy recommendation.

Visit Mark Yu's Website


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