RICKS CABARET INTL INC RICK
March 28, 2014 - 12:52am EST by
otto695
2014 2015
Price: 10.75 EPS $0.00 $0.00
Shares Out. (in M): 10 P/E 0.0x 0.0x
Market Cap (in $M): 105 P/FCF 0.0x 0.0x
Net Debt (in $M): 75 EBIT 0 0
TEV ($): 180 TEV/EBIT 0.0x 0.0x

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  • REIT Transformation
  • Real Estate Monetization
  • Turnaround

Description

Summary

RICK appears to be at an inflection point, with three important catalysts coming together over the near-term.

  • Comps in the base business are turning positive.
  • A new restaurant concept which could provide a higher-multiple organic growth engine is showing initial success with its first few locations.
  • Most importantly, RICK will monetize its real estate holdings through the formation of a REIT.  This will significantly improve the balance sheet and pave the way for a much higher ROIC for the roll-up strategy while simultaneously lowering the stock's valuation.

 

Background:  RICK has been written up twice before on VIC.  Those writeups offer significant detail on RICK's history and operations.  Currently, RICK  operates 43 nightclubs (strip clubs) and restaurants with most of the locations in Texas, the Midwest and New York and the company has largely grown through acquisition.  Insiders own about 15% of the shares.  The TEV for the company is about $180M (about $105m equity and $75M net debt).

 

Catalyst #1: Comps in 2013 were negative as RICK had been discounting-- especially in the area of liquor sales-- to drive traffic in what it perceived to be a still-recessionary environment.  However, toward the end of FY2013 (note RICK has a Sept. Year-end), RICK ended most discounting as it noted its more traditional higher-end demographic returning to its clubs.  Comp sales were positive for 1Q14 (Dec) at +0.3%.  However, management noted that comps were up about 3-4% for Oct/Nov and then were down in Dec due to winter weather, resulting in an overall marginal increase for the quarter.  However, on the February conference call, management indicated that comps for the first six weeks of 2Q (March) were back to up more than 4%.  Here's the relevant quote:

"I’m very pleased to report that sales for the second quarter to date are up strongly with year-over-year sales up in the high teens for January and same store sales turning up more than 4%."

 

It seems likely that RICK should be able to  achieve positive comps going forward (or at least  ex- any unusual weather), given recent trend and since it has stopped discounting liquor and has indicated at the Noble conference in January that it has recently begun to take price increases (see this link and scroll down: http://noble.mediasite.com/mediasite/Catalog/Full/de6778abbb904b6e9acc4546c85c52d621) .

(note also the reference to overall sales being up "in the high teens";  this compares to 1Q revenue growth at just 8% and reflects a recent spate of club & restaurant openings.  My guesstimate for 2Q revenues is $33.8M, up 15% sequentially)

 

Catalyst #2: Rick's has developed a Hooter's-like restaurant called Bombshells.  They have two open currently and expect to have ten open or in development by the end of F14.  The target is for each of these locations to do $3M in annual revenue with 15-25% EBITDA margins.  If successful, this could be a significant organic growth driver for RICK.  For example, if 10 Bombshells are indeed opened by say mid 2015 that would add $30M in incremental annual revenue versus a 2013 revenue base of $112M and $6M in annual EBITDA on a 2013 base of $28M.  Of course, there is some risk here, but the qualitative (and some limited quantitative) commentary from management so far and the aggressiveness of the store rollout indicate that likelihood of a strong return here is high.

With regard to the first Bombshells, in Dallas, here is what management has said:

The Bombshells in Dallas continues to exceed our expectations, averaging over $65,000 a week in sales now and still growing.

 

With regard to the second unit, in Webster Texas, management has only commented on initial sales, saying sales at the grand opening in January "easily met our high expectations."

 

Here is also a general comment they have made about the restaurant concept:

What we really like about the sports bar/restaurant/live music concept is that the combination is proving very promising based on those that we have opened. The three-in-one concept allows us to keep the restaurant filled throughout the day, the night and into the early morning hours, serving different patron demographics and maximizing our liquor sales, which have the highest margins for us.

 

Catalyst #3: RICK explored a public REIT option initially but concluded they did not have enough scale at this point.  So instead they are pursuing a private REIT to monetize their real estate.  The value of the real estate is about $85-$100M.  RICK will retain a 9.9% interest in the REIT.  There is about $38M in debt tied to the real estate that will go  to the REIT.  Assuming "sale" of 90.1% of the low-end valuation of $85M, RICK would offload the $38M in debt and pull in roughly $35-$40M in capital from the transaction.

There will be multiple benefits to this:

 

  • the TEV enterprise value will go from roughly $180m to approximately $105M. With this, the TEV/EBITDA multiple goes from about 5.5x to about 4.2x and the eps multiple goes from an already-low 8.8x to 7.2x.

 

  • the transaction provides a significant cash infusion for acquisitions and de novo restaurant openings, giving investors a clear path to significant growth for the next several years.

 

  • Leaving out some outlying periods, RICK has tended to trade in a range of about 4x-8x EBITDA  and 8x-15x eps (see valuation data below).  So this transaction will leave them at the low-end, but will simultaneously position the company for top-end growth and much higher ROICs, serving as a catalyst to get the stock to the middle/high end of the range.

 

To the point about the new RICK (with REIT vehicle).  Here is an example of how the ROICs will improve under this new structure:

 

We looked at an XTC in Dallas that we bought where we paid $3 million for the club and $5.5 million for the real estate. The club was making a couple million dollars a year, but instead of making the couple million dollars a year on a $3.5 million investment it’s an $8.5 million investment because we bought the real estate as well. If we can take that real estate out and just pay the rent on the property, the return on our investment from the operating side is much, much bigger.

 

So, in this example, the ROIC goes from about 23% to about 34%.  (For this calculation, I am assuming a rental expense of about 10-11% on the now-leased/previously-owned real estate that gets paid to the REIT, based on extrapolating lease disclosures from the 10-K).  

 

  • The new REIT is expected to offer other club operators the ability to monetize their real estate.  RICK will have a 9.9% ownership share in the economics of this and will also be collecting a management fee as the manager of the REIT.  I have not factored in the potential management fees in to this thesis, so this aspect is additional upside.

 

 

Timing of the REIT announcement:  This appears to be imminent (within the next 6 weeks).  On the February call, management said the following, suggesting an announcement by early May:

We are currently in a process of drafting documents to create such an entity [the REIT].... On the REIT stuff we’re working on it right now. We’re working on getting the lawyers engaged, we’re drawing up all the paperwork to form it all, and we should get something out to the market very shortly on when that’s going to be set up. it could be this [March] quarter, could be early next quarter, but probably before the next earnings conference call we’ll definitely have an update.


Given no sell-side coverage, I don't believe this situation is widely appreciated so i would expect a PR outlining the plans for the REIT would attract alot of new investors to the story:

 

 

Valuation:

The trading range for RICK over the last 5 years (2009-2013) is as follows:

Ebitda: 4.1x-9.3x

eps: 8x-15x

I have excluded a few outlying observations when the stock traded as low as 5x eps an as high as 40x.

 

(note also comparable company VCGH was taken private at 8.5x in 2011)

 

Given that the market multiple in general has expanded over this time and more importantly, given an expectation for higher ROICs once the REIT is created, growth is accelerating (RICK has guided to 20-30% annual revenue growth versus the 2009-2013 period of 11% CAGR ), an improvement in comps, and an organic higher-multiple growth driver in the new restaurant concept, strong free cash flow (with maint. capex of only about $2M, I estimate FCF of about $1.20/share currently), I don't see much downside here and would expect RICK to attract at least a 15x multiple on PF eps of $1.50 for a target price of $22.50 within the year. 

 

Here's how I see the pre & pro forma-REIT  (and deployment of cash) income statement looking:

                                                Pre-REIT                               PF-REIT*                              PF-REIT w/cash deployment**

Revenues                                  $130M                                  $130M
EBITDA                                     $32.5M                                 $25M                                                     $36.5M                                
Operating income                       $26.5M                                 $24.5M                                                  $33.7M  
Pretax                                       $18.5M                                 $22.5M                                                  $29.7M
Net income                                $12.0                                    $14.6M                                                 $19.3M
EPS                                           $1.22                                    $1.49                                                     $1.80

shares                                       9.8                                       9.8                                                          10.7

net debt                                    $75M                                     $0                                                           $28M

 

*this model conservatively assumes they use the cash inflow to pay off half the remaining debt on the balance sheet.

**this model assumes they spend the $40m in cash inflow from the REIT transaction at a 3.5x multiple of ebitda.

 

One other note on valuation: there have been several periods (1995-1997; 2007/2008 and 2010) in RICK's history when the market has become enamored with RICK's stock, expecting an acceleration in the rollup of the nightclub business, pushing the EBITDA multiple into the 10-12x range and the eps mulitple into the 25-30 range.  I mention this as an upside case since the REIT vehicle could in fact be a game changer and it is conceivable that the market again puts a big multiple on this story given the transformative nature of the REIT transaction and the growth that should follow.  should this upside case evolve, this could be a 3-4x bagger over the next 12-24 months.


Further (small) positives:

 

  • Small insider purchase recently (from CFO).  I don't want to make too much of this, but the CFO did make a small purchase last week.  He hadn't bought stock since last Summer.  Hopefully, one can assume that he would not have made this purchase this late in the quarter or this late in the process of putting together the REIT if the REIT idea was falling part or if operations had suddenly deteriorated.

 

  • management has recently sold or put up for sale the corporate aircraft.  I suspect they are responding to some criticism in the past about this and want everything in order for what appears to be a re-launching of a higher-growth RICK with the new REIT vehicle in place.

 

 

Risks:

REIT falls through

Bombshells concept, despite initial strong results, disappoints

Bad acquisitions: management has had a few acquisitions that disappointed, most notably one in Las Vegas

 

Conclusion:

RICK is 15% off its highs from last Fall and is at the historical low-end of its valuation range and yet it is gaining traction with its new Bombshells concept, its base business has just turned positive and is on the cusp of a transformative monetization of its real estate that will not only significantly improve the balance sheet but will also provide strong visibility to high-end growth for the next several years.

 

 

 

I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

reit transaction
comp sales
bombshells concept
low valuation/accelerated growth
 
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