After L Brands (LB, Financial) posted negative June comparable store sales last Thursday, the stock nosedived about 12% to lows not seen in over five years.
Meanwhile, a Jefferies analyst was quick to declare the brand broken and stated that "at any price, the consumer doesn't want their products anymore." The stock is now trading at about 11 times next year's earnings. That sounds scary, I'll admit, but a wise guy once said: "Be fearful when others are greedy and be greedy when others are fearful." L Brands is full of wonders and isn't going away anytime soon.
A dirty little Victoria's Secret
Since it is L Brands' largest segment, let's talk about Victoria's Secret first.
It is true that for a while, loyal customers of the underwear retailer ditched the brand en masse. Fiscal 2017 was a year to forget for the brand as comparable store sales decreased 8% because of poor product offerings, a loss of pricing power (caused by a reduction in product quality) and lower store traffic. But founder and CEO Leslie Wexner recognized the problems and said he was working on fixing things. Looking at the numbers, it appears he's actually delivering.
While fiscal 2017 comps were atrocious, things are looking much better this year and the brand could actually post positive comps for the year if the trend continues.
Speaking of Wexner, did I mention he still owns a little more than 16% of the company's shares? On top of that, the fact he has spent his entire life in the branded clothing retail business shouldn't be overlooked. He launched L Brands (which was called The Limited at the time) in 1963 and built it into the giant it is today.
Although Victoria's Secret hit a rough patch, after reviewing its product offering and dropping unpopular lines, the brand is doing better. Investors overlook the fact that direct channel sales are growing in the mid-teens and the brand still makes about $800 in sales per square foot, which is remarkably high for a retailer.
I like Bath & Body Works
Bath & Body Works, which generates about a third of the company net sales, is L Brands' second-largest segment. If you've never been in one of their now ubiquitous stores, they sell branded body care and home fragrance products. People are going crazy for its unique scents and sales are growing fast (see comps growth table above). Sales per square foot are comfortably above $800 and growing. The craze for the products will most likely fade over time, but for now it's still a great brand to own.
LB: Liking back L Brands
Now throw in La Senza and Henry Bendel, which are other peripheral brands owned by L Brands, and the company actually has all the characteristics of a retail powerhouse: gross margins hovering around 40%, generous cash flows, return on assets in the low teens (yes, you read that right), top quartile sales per square foot and industry-leading inventory turnover. This could be all yours for 10 times last years' earnings or an enterprise value of 6 times earnings before interest, taxes, depreciation and amortization. On top of that, you get a 7.3% dividend yield roughly covered by the free cash flow. Even if the company were to cut it by half to save liquidity, you'd still be left with a yield of about 3.5%.
The real risk is that the naysayers are right and Victoria's Secret is actually dying. But truly great brands don't die that easily. Think about the Lululemon's (LULU, Financial) see-through pants saga, Coca-Cola's (KO, Financial) bad bet on New Coke or Michael Kors' (KORS, Financial) recent comeback after the brand was almost left for dead. As a result of years of genius marketing, Victoria's Secret still has a massive share of the consumer's mind. With such an experienced CEO at the helm, I'm confident the downside of owning L Brands for the next several years is very limited.
Disclosure: Long LB.Â
