10/22/2017

Popular bear thesis creates probabilistic opportunity, Francesca's (FRAN)

Francesca's holdings (FRAN)  is a specialty retailer with 671 boutiques in 48 states. E-commerce reports 7% of sales. Revenue by product broken down as follows; Apparel 49%, Jewelry 23%, accessories 15% and Gifts 13%. More specific, Apparel 49% (Dresses, Fashion Tops, Sweaters, Cardigans and Wraps, Bottoms, Outerwear and Jackets, Tees and Tanks, Intimates): Jewelry 23% (Necklaces, Earrings, Bracelets, Rings): Accessories 15% (Handbags, Clutches, Wallets, Shoes, Belts, Hats, Scarves, Sunglasses, Watches, Hair Accessories): Gifts 13%(Fragrance, Candles, Bath and Body, Home Accessories, Books, Wall Art, Nail Polish, Miscellaneous Items).







I view Francesca's Holding (FRAN) as low to medium risk. Today's price below $7.00 per share offers a  potential one to two year high double-digit stock return. Francesca's Holdings risk is not in the financial statements but instead, its niche strategy that's contingent on successful implementation of its merchandise.  The boutiques designed without deep low-cost inventory and instead try to offer a treasure hunt experience. The shallow inventory creates a must buy now experience for its core 18 to 35 female demographic. That being said, FRAN has enviable financial results compared to their industry competitors, historical valuations, and its intrinsic value. So, with the A+ financial strength, a few quarters of missed results is unlikely to have a large negative impact on the stock price. But their long-term success is 100% contingent on recreating their treasure hunt moat.

This post is not on its inventory strategy or qualitative analysis. But instead share the financial discounts that creates a margin of safety and offers a value trading opportunity.

Risks:
New CEO Steve Lawrence inability to recreate its treasure hunt moat. This uncertain merchandise strategy required to revert at or near its 52 week high of $22.39.

Hurricane Harvey's direct hit in Houston. FRAN's corporate headquarters, e-commerce fulfillment, distribution center, 40 boutiques and employees in or around Houston. The storms full impact not quantified. Irma affected the Florida locations. This quarter presents challenges. But the current stock price likely factors these events.

Negative same-store comparisons, the revolving senior management team that has been struggling  for several years. They must fix the treasure hunt moat.They can't continue to buy back shares.

Shares short was 6.28M or 19.57% of float on 08/31/17, 4.68M on 09/29/17. A high short position coupled with recent negative brokerage sentiment continues to weigh on the stock price trading near its 52-week low.

Opportunities:
FRAN's  return is  -57.80% over the TTM, 3 years annualized -18.28%, 5 years annualized is -25.02%. The sickly stock returns are in direct contrast with the strong financial position, zero debt, consistent growing double-digit sales, deep historical and relative valuation discount. The discounted stable FCF indicates an intrinsic value greater than the current price.




Historical Valuation Deep Discount:



Income Statement

Revenue,Gross Profit:


























Operating Inome, EBIT, EBITDA:
































Balance Sheet





























Cash Flow












ROIC


















Relative Valuation Deep Discount:




































Intrinsic Value:

There were only 4 other Apparel Industry peers that had an enterprise value less than the discounted FCF. I took the annual prior 5 year average FCF. Then discounted that average annual FCF using an 8% rate for 10 years. Francesca's Holdings (FRAN) and 4 more passed this simple discount to intrinsic value test. The other 4 were CATO, EXPR, BKE and CHS.



Catalyst: Continued profitable growth above the cost of capital with share buybacks. Stable same store sales comparisons, steady margins, and investor confidence in new leadership. Financial evidence of an improved merchandise strategy.



 Long: FRAN

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