I meant to write this post before but I added a new position Finish Line (FINL) to my portfolio as well as discarded a position in Emerson Radio (MSN). To start I have discussed retail before in other posts, retail has been beaten down over the last two years and there is blood in the street when it comes to the price of a few names. The irony in this is that the same type of trade happened leading up to the dot com crisis. Retail, like almost any other industry, is cyclical but we also have new variable to take in to consideration, e-commerce. Some firms will survive this change others will fail our job as investors is to pick those who will survive and are supremely cheap in price in relation to value. With that said let me get into my reasoning for the new purchase.
I wanted to put out this article before earnings are released on the 21st of December, I purchased my shares on the 22nd of November with a cost basis of $9.95. First let me get into some basic valuation metrics, currently in their recent filing we see they have $2.85 a share in cash with no debt, though with retail companies we have to consider operating leases which are kept off of the balance sheet. We also see a 0.82x B/V and a 0.20x PSR. This compares to an industry average of 1.75x B/V and 0.87x industry average PSR. Finish Line also sports a 0.75 quick ratio and 2.40 current ratio, the quick ratio has fallen slightly over the years due to acquisitions that required inventory buildups which I’ll touch on later. Sported a 4.43% dividend at the time of my purchase which is covered 5x by free cash flow, and speaking of free cash flow, it traded at 9.5x FCF at the time of my purchase, 6.5 ex. Cash.
Margin pressures due to promotional sales throughout the whole industry has been a theme. The stock seems to be priced as though this is going to be the theme going forward. I disagree, as I said retail just like almost every industry is cyclical and sports footwear is no different, being forced to liquidate product in such a fashion is indicative of what I am talking about. Finish Line and Foot Locker both buy a very large portion of their inventory from Nike, and since the advent of Adidas taking market share away from Nike both firms have seen revenues take a dip on top of the margin pressures. Also, an interesting feature of Finish Line is that they have 347 stores located within Macy’s department store’s as per their most recent annual report. Ironically for all the negative sentiment surrounding department stores this happens to be the part of their business that has grown the most with sales increasing 6.8% year over year in their last 10Q while e-commerce sales increased 1.5% and brick and mortar falling 5.9%. This pattern holds true for Foot Locker as well in terms of e-commerce and B&M. FINL also sold JackRabbit on February 24th of this year. JackRabbit was a part of the division of Finish Line called Running Specialty Group as you can tell from the name they run specialty running stores, Finish Line increased their ownership in the endeavor in 2014 and because of the high expenditures in inventory is the reason why the quick ratio has fallen from 1.27 to a low of .66 in the most recent annual report to 0.75 in the most recent 10Q because of the sale.
Lastly in regards to Finish Line, while I don’t like this company because of acquisition speculations it is an important piece of the company that has to be considered. The company implemented what amounts to a poison pill or what the management calls a “Shareholder Rights Plan” while normally this would turn me away the dynamic of this situation was rather interesting. The plan was implemented following the fall of the stock price as a company called Sports Direct started to build a position in the company. The plan restricts any single shareholder from acquiring more than 12.5% of the outstanding shares. The management refused to say if this plan was in response to Sports Direct but management added that it was a way to “drive those who might want to do a takeover to the table” aka Sports Direct. The action hasn’t stopped Sport Direct at all and instead of buying shares in the open market they have acquire different derivative contracts that amounts to a 35% economic interest in the company. This number is up from 30% from a filing dated on November the 2nd.
Finally, as I said in the beginning I have sold out of Emerson Radio at around $1.50, which was bought in January at a cost basis of $1.06. Currently Grande Holdings, the majority owner of Emerson is emerging from bankruptcy and has new management presiding over the company. While Emerson still has around $2.00 per share net cash, I’d rather not ride out the last 33% with the new management and have quite frankly found better opportunities in the market like Finish Line.
Portfolio as of December 20, 2017: