Christopher & Banks Corporation (CBK, Financial) is a retailer of women’s apparel and accessories, which operates retail stores through its wholly owned subsidiaries, Christopher & Banks Inc. and Christopher & Banks Company. Christopher & Banks' target customer is the female baby boomer, women between the ages of 45 and 60.
Reason for the slump
On Sept. 3, Christopher & Banks reported Q2 2014 results of 7.3% same store sales growth, as well as a 2.3% increase in sales. On Oct. 7, management updated its outlook for Q3. Management reduced the gross margin improvement expectations, a reduction in SG&A expenses, increase in inventory due to softness in traffic trends. The stock has been beaten down to $1.24 (Nov. 16 close) from $9.37. To be fair, Christopher & Banks reported the following for 2015 Q1:
During the first quarter, net sales per store decreased 7.9%, net sales per square foot decreased by 11.6%, gross margin per store decreased 13.3%, and gross margin per square foot decreased 16.8% compared to the first quarter last year. (Source 10-Q)
and the following for 2015 Q2:
Net sales for the 13 weeks ended Aug. 1 were $94.0 million, a decrease of $12.6 million, 11.8%, from net sales of $106.6 million for the 13 weeks ended Aug. 2, 2014. The decrease in net sales was primarily a result of a 6.2% decrease in units purchased per transaction, operating an average of 24, or 4.4%, fewer stores. Same-store sales decreased 12.4% for the 13 weeks ended Aug. 1 when compared to the 13 weeks ended Aug. 2, 2014; this follows a 4.7% same-store sales increase in last year's second quarter. (Source: 10-Q)
It's not as bad as it seems
At first glance, those numbers look depressing. But after digging a little deeper, the patient investor will realize that the results are only so bad because of Christopher & Banks' new strategy. Christopher & Banks has been in a strategic transition for about five years. Originally, Christopher & Banks served the end customer through two brands; C.J. Banks and Christopher & Banks. C.J. Banks serves the plus-size market, and Christopher & Banks serves the petite market.
This strategy initially worked with gross margins peaking at 44% in FY'01 and then trending down for the following 11 years. They bottomed in FY'12 at 29.15%. Management decided to try a different strategy: Fusing both brands into one. This new single brand is known as Missy, Petite, Women or MPW. This strategy has increased store productivity and enhanced operating efficiencies. We can see that in the data:
Christopher & Banks sales/square feet to # of stores. (Source: 10-K)
The number of stores is down from 775 to 518 or 33% but sales/square feet is up from 154 to 190 or 23%. Net sales are only down from 448 to 395 (TTM) or 13%; given that one-third of the stores have been closed, that's not too shabby.
Risks
Inventory numbers (TTM) –Â Inventory turnover is at the lowest it's ever been, at 5.09, and days inventory is at its peak, at 71.67. Honestly, at these prices, inventory numbers are almost irrelevant. However, these numbers should be worked out as management finishes the transition to 100% MPW stores over the next two or so years; 66% of the operating leases expire over the next three years. Management is extremely aggressive with this transition.
Retail Slump –Â The retail slump generally does not last more than two years. The drop in sales in one year only makes it easier for sales to "grow" the next year. Assuming it lasts two years, Christopher & Banks has enough cash to weather the storm.
Run out of cash –Â As Christopher & Banks opens new MPW stores, there is a risk that it will run dry. Cash flows were -$1.3 million last year, and -$8.9 million TTM. I believe management will handle this issue appropriately. Should management decide to raise cash, however, and the market punishes it, I will simply buy more.
Catalyst
Data
Same store sales calculation for Q1 & Q2 excludes 50% and 46% of the stores. The stores that were excluded are all MPW stores, since they are the only ones that have been remodeled. The MPW stores have higher gross and operating margins than the C.J. Banks and the Christopher & Banks stores. FY'15 ends on Jan. 31. FY'16 should polish these numbers as the MPW stores will be now be counted, and Christopher & Banks as well as C.J. Banks will slowly become trivial. This will drive up same store sales numbers, the stock price should follow.
Our same-store sales data is calculated based on the change in net sales for stores that have been open for more than 13 full months and includes stores, if any, that have been relocated within the same mall. Stores where square footage has been changed by more than 25% are excluded from the same-store sales calculation for 13 full months following the change. Stores closed during the fiscal year are included in the same-store sales calculation only for the full months of the fiscal year the stores were open. (Source: 10-Q)
29% of stores have not been consolidated
As of Aug. 1, Christopher & Banks operated 529 stores: 82 Christopher & Banks, 73 C.J. Banks, 309 Missy, Petite, Women, and 65 outlet stores. Management plans to close some of the 155 Christopher & Banks and C.J. Banks, and convert the rest to MPW. As this process goes through, the other net sales comparable metrics should trend higher, the stock price should follow.
Valuation
The retail industry is in a slump, and retail stocks have been punished over the past few months. The genuine gross and operating margins are being masked by the C.J. Banks and Christopher & Banks stores, as well as the retail slump. Management says that its long-term goal is to increase gross margins by an additional 250 to 350 bps from 35.31% over the long term. They have the potential to go even higher than 37.8% or 38.8%. The MPW stores are just so much more efficient. But we will use management's assumptions for valuation purposes.
The market cap as of today, Nov. 16, is $46.2 million. Christopher & Banks carries $34.5 million cash and has no debt. Enterprise value is $11.72 million. EBIT for FY'14 (before the retail slump) was $9 million for an EV/EBIT ratio of 1.3.
I don't have access to real-time industry data, but Macy's (M, Financial) and Kohl's (KSS, Financial) trade for around 7x EBIT right now. So, assuming a reasonable multiple of 6x EBIT, we arrive at a value of value of 54 million + 34.5 million (cash) = 88.5 for a 91% upside.
Assuming gross margins thread higher to 38.2% (mean of what management expects but still lower than historical gross margins), we will end up with an Operating income/EBIT of $33.51 million. 6x EBIT = $207 million, add the cash balance of $34.5, and we arrive at $241 million for a 521% upside.
The above are conservative cases.
For a more aggressive case: S&P EV/EBITDA is 12x. If we use EBITDA and not EBIT, add depreciation of $11.5 to $33.5 million EBIT, we arrive at $45 million EBITDA, a value that approximates today's market cap of $46 million. Now tag on the 12x, and we arrive at $540 million for a Peter Lynch-like 10-bagger ~ 1174% upside.
The operating margins should normalize over the next few years as retail recovers and management works down excess inventory. The patient investor will be rewarded handsomely. My favorite type of valuation is the one that does not require a spreadsheet. I'm buying 3,200 shares at market open.
You can track my portfolio on my website: mazivalue.com, on twitter @MaziValue
Disclaimer: Nothing in this article is investment advice or offers any opinion with respect to the suitability of any security, and the views expressed in this article should not be taken as advice to buy, sell or hold any security.
