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Billabong Inc. BBG
April 11, 2017 - 3:31pm EST by
Saltaire
2017 2018
Price: 1.18 EPS 0 0
Shares Out. (in M): 198 P/E 0 0
Market Cap (in $M): 233 P/FCF 0 0
Net Debt (in $M): 128 EBIT 0 0
TEV (in $M): 495 TEV/EBIT 0 0

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  • Brand
  • Consumer Goods
 

Description

We recommend viewing the PDF for the properly formatted write up. 
https://www.dropbox.com/s/7u795xojuy2tem1/BBG%20SZ%2004-11-2017%20FINAL.pdf?dl=0 
 
April 11, 2017
 
BBG.AU
A longer than expected turnaround is entering its final stages, presenting investors the opportunity to purchase shares near all-time lows. Deleveraging and increased focus on core brands to drive meaningful shareholder value with over 100% upside from current prices.
 
Overview: We recommend Billabong International Limited (the “Company”, “Billabong”, or “BBG.AU”) as a long.
 
Billabong designs, markets, and distributes board-sport (surf, skate, snow) apparel, accessories, and hard goods globally. Formed in 1973 by Australian couple, Gordon and Rena Merchant, Billabong parlayed success in its home Australian market into rapid overseas expansion during the 1980s and 1990s. The Company went public in 2000 and embarked on a debt fueled acquisition spree during the following decade, acquiring eight brands and seven board sport retail chains, while also significantly expanding distribution beyond independent surf and skate shops to mass merchants, off-price retailers, and department stores. The end result was brand dilution and a bloated regional operating structure.
 
After the Company’s fortunes deteriorated during the recession, it became the subject of buyout talks for much of 2011, 2012, and 2013, preventing management from implementing a comprehensive turnaround plan. The Company conducted a major balance sheet recapitalization in February 2014 and has since taken many steps to improve the operating profile of the business by selling non-core brands, centralizing operations and reevaluating its go-to-market strategy. With most of the heavy lifting already done, and significant pain already taken by investors, we believe Billabong is finally ready to turn the corner.
 
Our investment thesis centers on a few key points.
1. Strong brand portfolio with core customer following intact.
2. Nearing finish line of turnaround as initiatives undertaken begin to bear fruit.
3. Imminent debt refinancing, immediately benefiting free cash flow.
4. Top tier private equity sponsorship that is likely to end with a sale of the business.
Investment Thesis
 
 
1. Strong brand portfolio with core customer following intact
 
As part of its turnaround plan, Billabong is whittling down its portfolio to focus on its three largest brands, Billabong (~50% of sales), Element (~19% of sales), and RVCA (pronounced RUE-CUH, ~19% of sales). In the past 5 years BBG has sold off many non-core brands including Nixon (2012), DaKine (2013), Sector 9 (2016), and most recently Tigerlily in February 2017. Our conversations with former Billabong executives and current Billabong competitors indicate that all three brands remain highly viable.
 
Billabong ranks as the world’s leading surf brand, and we expect that its standing among surfers and surf enthusiasts will insulate the Company from any potential further decline of action sport brands as fashion items. In North America and Australasia (38% and 45% of H1-FY2017 sales, respectively), approximately two-thirds of Billabong’s sales are made through independent surf shops and surf chains. Our market research indicates that surfers and surf enthusiasts continue to hold brand Billabong in high regard. Billabong should therefore benefit from increased surfing participation, which grew at a 2.5% CAGR between 2006 and 2015.
 
Element is a leading skateboard brand known for its high quality, eco-friendly skateboards. The brand has a substantial presence in independent skate shops as well major skate chains including Zumiez and Tilly’s. Element should benefit from stable skateboarding participation, which has remained relatively flat since 2010 after experiencing declines in the prior five years.
 
 
RVCA is a cross over West Coast surf / skate and fashion brand. The brand’s appeal is apparent from its presence in independent surf and skate shops, major surf and skate chains, and it’s over 6.1M Social Media followers for the brand and its sponsored athletes. Recent, [one-time,] retail-customer specific issues have masked brand strength. Just a few years ago PacSun accounted for greater than 20% of revenue (currently less than 5%). As PacSun’s business deteriorated, eventually ending in bankruptcy last year, it dropped to less than 10% of RVCA’s revenue. As PacSun came out of bankruptcy, RVCA chose to become less promotional. For instance, in Canada, RVCA pulled out of West49, choosing other channels of distribution to avoid discounting. While this lead to a further decline in volumes, customer perception of the RVCA brand appears intact. Anecdotally we have heard that within Billabong stores, RVCA is the number one brand requested by associates.
 
2. Turnaround plan nearing the finish line with streamlined businesses and structurally higher margin profile
 
In December 2013, Billabong’s newly hired CEO, Neil Fiske, unveiled a seven part turnaround plan. The plan concentrated resources on core brands and centralized the operating structure to reduce costs. Progress is nearly complete with a few items remaining. Once fully completed, BBG will be well positioned, with a lean and focused platform for growth.
 
Fiske was brought on board in September 2013 as part of the Company’s recapitalization and is well known for the successful turn-around efforts he previously lead at Bath and Body Works and Eddie Bauer. Fiske’s experience at Eddie Bauer is especially relevant to Billabong. Eddie Bauer was a well-known outdoor brand that had rapidly expanded its product line and distribution under a significant debt load, ultimately filing for Chapter 11 in 2009. Fiske’s turnaround plan involved bringing in a new creative team and returning the Company’s product focus to its traditional emphasis on high quality men’s business and outerwear. The turnaround effort was highly successful, resulting in a 3.0x return over five years for Eddie Bauer’s private equity owners.
 
Fiske’s Billabong plan is similarly focused on returning Billabong to its core. As mentioned, the central pillar of the plan is the renewed focus on the Company’s three largest brands: Billabong, Element, and RVCA. In order to alleviate the brand dilution and loss of product focus at the Company’s smaller brands, Fiske has brought back the founders of Billabong, Element, RVCA, and Von Zipper (Southern California inspired eyewear) to serve as creative directors and to restore and preserve the authenticity of each brand.
 
Fiske has realigned internal operations as well, moving from a regional operating structure to a global operating structure. Each brand is now managed by a global brand manager allowing the Company to rationalize SKUs, reduce sampling and development expenses, and make deeper buys from fewer suppliers (reduced from over 1000 to less than 150), resulting in significant cost savings. The bulk of this global sourcing initiative has been implemented, and the Company expects gross margin improvement in the second half of 2017 as these benefits flow through. Importantly, however, Billabong is not centralizing design and merchandising in order to remain responsive to local customer demand. Fiske is also centralizing support functions to drive cost savings. The Company is consolidating its supply chains and IT systems. This move is expected to save 50-100 basis points.
 
Furthering the cost savings is the Company’s investment in an Omni-channel platform, allowing for an integrated view of their customers and a more efficient management of the supply chain, incorporating all retail and sourcing points. With the Omni platform nearly complete, expansion and licensing opportunities will accelerate.
 
The Company has a significant opportunity to stem losses via improved distribution. The Company moved its Peru and Chile operations to distributors which will yield additional cost savings. In addition to cost savings, distribution represents an opportunity to grow revenue. Fiske has worked through vendor trepidation and refreshed and refocused the sales team, producing wholesale wins. BBG has distributor agreements in progress in South and Central America, with 27 licensed stores signed and 20 more in the pipeline, facilitating direct shipping to these markets. The Company’s e-commerce sales are currently less than 5% of total revenue. A revamped e-commerce offering is expected to be rolled out as soon as Holiday 2017.
 
3. Debt Refinancing will drive significant shareholder value
 
Proceeds from the divestment of Tigerlily will be used to pay down $56M in debt. As leverage falls the Company anticipates refinancing its 11.9% senior term loan with a more traditional revolving credit facility. Refinancing will be immediately accretive to free cash flow. Every 1% reduction in interest saves the Company $2.65m peryear. Since 2014 the U.S. dollar has risen 20% vs. the Australian dollar, this change has made BBG’s USD denominated debt more expensive, given the high percentage of the Company’s sales and operating profit which are earned in non-USD currencies. Compounding this headwind was the U.S. West Coast port strike in 2015, which caused shipping delays, lost selling time and a buildup in inventory. This complication meant that BBG temporally lost its natural USD hedge, furthering the debt challenges.
 
4. Private equity sponsorship provides additional support for viability of brands and turnaround effort
 
As mentioned, Billabong was the target of numerous buyout firms between 2011 and 2013. The Company received separate offers from TPG, Bain Capital, Sycamore Partners, Altamont Capital Partners, and VF Corporation. Ultimately, the Company completed a recapitalization lead by Oaktree and Centerbridge in February 2014. The interest shown in Billabong by these buyout firms and the substantial resources they deployed during their due diligence processes provides additional support for the viability of the brands and the turnaround effort.
 
Additional Catalysts
Assuming it is not bought first, the Company will continue to improve disclosure and eventually list on a US exchange.
 
Industry
According to Billabong, 65 million people are inclined to surf in the United States, of these, 25% are very engaged in the surf lifestyle. While retail in general and board sports in particular has been challenged after the PacSun and QuickSilver bankruptcies and Zumiez and Tilly’s challenges, it appears that the channel is beginning to stabilize.
 
Valuation and Price Target
We believe that Billabong is significantly undervalued at its current share price and that the turnaround and expected margin improvement present an even greater opportunity. As shown in Exhibit 1, Billabong is currently trading at a TEV / Revenue multiple of 0.4x, which is at the low end of comparable wholesalers, integrated wholesalers, and retailers. If Billabong were to trade up to 0.8X, even then below the industry average multiple, its enterprise value would increase to ~$807.3m and equity value to ~$562.2m, or $2.78 per share, 125% upside to the 04/07/2017 closing price (see exhibit 2). We believe that Billabong should currently be valued on a revenue multiple due to its presently depressed margin and outlook for margin improvement.
 
As for Billabong’s end-state profitability, we believe that Billabong can dramatically improve its EBITDA margin. The Company’s LTM Pro forma Adj. EBITDA margin was 7.3%. We believe that margins will normalize as the Company continues to reduce costs, grow its underdeveloped e-commerce business, and pursue efficiency strategies, leading to EBITDA margins in line with peer wholesalers, retailers and integrated brand averages (see exhibit 1), of ~12%.
 
On current revenue run-rate of ~$1.0Bn (Post sale of Tiger Lilly), a 12% EBITDA margin equates to $121mm in EBITDA. An 8.0x multiple, which is conservative compared to low double digit transaction comps and trading comparables for even reasonably well positioned wholesalers (see exhibit 1), results in an enterprise value of $968.8m and an equity value of $723.6m, or $3.57 per share, 189% upside to the 04/07/2017 closing price (see exhibit 2).
 
Risks
Sales continue to deteriorate due to secular shift away from action sport brands as fashion items. While Billabong’s sales will fluctuate with economic and weather conditions in its markets, we believe that Billabong is insulated from any secular trend away from action sport brands as fashion items because it earns the majority of its revenue from core board sport participants and enthusiasts. Previously referenced data indicating stable to increasing board sport participation, Billabong’s brand’s mindshare among teenage consumers, and the Company’s private equity sponsorship and strategic M&A interest further supports our view. Comparable store sales growth experienced one time difficulties in H1, with notable weather challenges in Europe and a customer delaying orders in the Middle East. Brick and Mortar Comparable store sales were +0.5% in Americas, -3.7% in Asia Pacific and -2.2% in Europe. Inclusive of Ecommerce, Comparable sales were +5.8% in Americas, -3.1% in Asia Pacific and +1.3% in Europe.
 
Turnaround, specifically revamping of e-commerce, takes longer than anticipated to deliver higher operating margins. Fiske has been very cautious with his messaging to the analyst community that Billabong is a multi-year turnaround. In addition the Company discussed on their most recent conference call that there were delays with the vendor charged with creating their ecommerce platform. Not being able to take full advantage of the key November and December selling season would mean waiting another year to reap the full benefit of the investments the Company has made in the channel, SKU rationalization and leveraging social media initiatives. Fiske’s prior successes and the turnaround’s focus on internal reorganization give us confidence that margins will improve markedly over the next two years.
 
 
 
Exhibit 1

 

TEV/ Revenue

TEV/ Revenue

TEV/ EBITDA

TEV/ EBITDA

LTM EBITDA Margin

LTM EBIT Margin

Company Name

LTM

FY-2017

LTM

FY-2017

    
             

Wholesalers

            

Adidas AG

1.85x

1.66x

21.1x

15.9x

8.8%

7.2%

Columbia Sportswear Company

1.47x

1.41x

10.9x

10.5x

13.5%

11.0%

Esprit Holdings Limited

0.46x

0.48x

55.3x

10.6x

0.8%

-2.8%

NIKE, Inc.

2.60x

2.50x

16.6x

15.7x

15.6%

13.6%

PVH Corp.

1.27x

1.24x

9.7x

9.2x

13.1%

9.2%

Ralph Lauren Corporation

0.85x

0.96x

5.9x

6.7x

14.5%

9.9%

Under Armour, Inc.

1.81x

0.00x

15.6x

0.0x

11.7%

8.7%

V.F. Corporation

1.95x

1.93x

12.2x

11.8x

16.0%

13.7%

Mean

1.53x

1.27x

18.40x

10.05x

11.8%

8.8%

Median

1.64x

1.33x

13.87x

10.57x

13.3%

9.6%
             

Integrated

            

Abercrombie & Fitch Co.

0.15x

0.16x

2.6x

2.5x

6.0%

0.1%

American Eagle Outfitters, Inc.

0.56x

0.55x

4.0x

3.9x

14.2%

9.8%

Chico's FAS, Inc.

0.64x

0.65x

5.6x

5.4x

11.4%

7.0%

Guess?, Inc.

0.24x

0.24x

4.0x

4.3x

6.0%

2.9%

H & M Hennes & Mauritz AB (publ)

1.85x

1.71x

11.4x

10.5x

16.2%

12.1%

Lululemon Athletica Inc.

2.60x

2.38x

11.8x

11.0x

22.1%

18.3%

PUMA SE

1.12x

1.03x

21.7x

15.8x

5.2%

3.5%

The Gap, Inc.

0.57x

0.57x

4.3x

4.6x

13.1%

9.3%

Mean

0.97x

0.91x

8.17x

7.23x

11.8%

7.9%

Median

0.60x

0.61x

4.95x

4.98x

12.3%

8.2%
             

Retailers

            

The Buckle, Inc.

0.59x

0.64x

3.1x

3.9x

19.0%

15.7%

Pacific Sunwear of California, LLC

0.00x

0.00x

0.0x

0.0x

0.1%

-2.0%

Tilly's, Inc.

0.19x

0.20x

2.4x

2.6x

7.9%

3.8%

Urban Outfitters, Inc.

0.64x

0.62x

4.7x

4.9x

13.4%

9.7%

Zumiez Inc.

0.41x

0.39x

4.9x

5.0x

8.3%

5.0%

Mean

0.37x

0.37x

3.04x

3.27x

9.8%

6.4%

Median

0.41x

0.39x

3.12x

3.86x

8.3%

5.0%
             
             

Median

0.64x

0.64x

5.9x

5.4x

 13.1%

 9.2%

Mean

1.04x

0.92x

10.84x

7.36x

 11.3%

 7.9%

Billabong International Limited

0.42x

0.41x

9.9x

8.1x

4.0%

1.1%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

 

Exhibit 2

BBG - PF Adj. EBTIDA

 

 

 

 

 

 

AUD Millions except per share amounts

       

Current Price

$1.24
 

FY-2015

FY-2016

LTM

      

Revenue

1,056.1

   1,103.5

1,049.1

 

Current Revenue and EBITDA Multiples

COGS

495.3

542.4

522.0

 

TEV

$383.1

Gross Profit

      560.8

      561.2

527.1

 

Adj. Revenue

$1,009.1

SG&A

      429.6

      415.6

393.3

 

TEV/Revenue

0.4x

Other Expense

      127.7

      127.7

125.7

     

Other Income

(10.6)

        (8.7)

(3.2)

  

TEV Calculation

EBIT

        14.1

        26.5

11.4

 

Share Price 04/07/2017

$1.24

Plus: D&A

        32.8

        32.2

30.5

 

Shares Outstanding

202.4

Plus: SBC

          1.5

          1.6

1.6

 

Market Capitalization

$250.0

EBITDA

        48.4

        60.3

43.5

 

Less: Cash

$89.2

Net realizable value shortfall expense on inventory realized / realizable below cost

          2.7

          1.2

1.2

 

Less: NOL Value

$8.6

Other income

      (10.6)

        (8.7)

(1.2)

  

Plus: Debt

$274.4

Significant items included in SG&A

        25.4

          6.4

7.5

 

Plus: Minority Interest

$0.0

Significant items included in other expenses

          4.4

          5.0

5.0

 

Sale of Tigerlily

$56.0

Non-operating revenue

        (4.3)

        (3.1)

(1.4)

  

TEV Adjustments based on call with MGMT

$12.5[1]

Adj. EBITDA

        65.9

        61.2

54.7

 

TEV

$495.1
             

Operating Expenses % of Sales

  

49.2%

49.5%

  

Target Price at EBITDA Multiple
         

Adj. Revenue

$1,009.1

         

Normalized EBITDA Margin

12%

Pro Forma Adjustments

  

Normalized EBTIDA

$121.1

Revenue

    

1,049.1

 

Multiple

8.0x

Sector 9 Revenue

    

10.0

 

TEV

$968.8

Adj. Revenue

    

1,039.1

 

Plus: Cash

$89.2

Tigerlily Revenue

    

30.0

 

Plus: NOL Value

$8.6

PF Adj. Revenue

    

1,009.1

 

Less: Debt

$274.4

EBITDA

    

54.7

 

Less: Sale of Tigerlily

$56.0

Plus: Global Sourcing Savings

    

14.0

 

Less: TEV Adjustments From Call with MGMT

$12.5

Plus: Project Pipeline

    

7.0

 

Equity Value

 $723.6

Plus: Logistics Reform Annualized Savings

    

5.0

 

FDSO

202.4

Less: Sector 9 EBITDA

    

(0.6)

  

Target Price at EBITDA Multiple

$3.57

Adj. EBITDA

    

81.24

 

% Upside

189%

Less: Tigerlily EBITDA

    

7.5

     

PF Adj. EBITDA

 

 

73.74

  

Target Price at Revenue Multiple

Adj. EBITDA Margin

 

 

7.8%

  

Adj. Revenue

$1,009.1

PF Adj. EBITDA Margin

 

 

7.3%

  

Multiple

0.8x
         

TEV

$807.3

 

 

 

 

  

Plus: Cash

$89.2

 

 

 

 

  

Plus: NOL Value

$8.6

 

 

 

 

  

Less: Debt

$274.4

 

 

 

 

  

Less: Sale of Tigerlily

$56.0

 

 

 

 

  

Less: TEV Adjustments From Call with MGMT

$12.5

 

 

 

 

  

Equity Value

$562.2

 

 

 

 

  

FDSO

202.4

 

 

 

 

  

Target Price

$2.78

 

 

 

 

  

% Upside

125%

[1] Includes addback for Onerous Lease Expense, Restructuring planned in Europe and Contingent Consideration Earn out for RVCA.

 
 
See PDF for Exhibits 1 and 2 
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Debt Refinancing, Potential Take Private, Continued execution of strategy. 

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