March 4, 2019 Consensus

The Weekly Consensus – March 4, 2019 (Volume 11, Number 9)

The Big Story
A Good Break-up?
Billy Busko

“The whole is more than the sum of its parts.” – Aristotle

However, Gap disagrees.  The company announced last week that it’s spinning off its value chain Old Navy from the rest of the brand portfolio, creating two publicly traded companies.  The legacy company will retain the Gap brand along with its other brands including Banana Republic, Athleta, Intermix and its newly created e-commerce brand Hill City.

One of the trends in the increasingly active market for corporate transactions has been the growing popularity of spin-offs.  A spin-off involves the separation of a company’s businesses through the creation of typically two (although there could be more) independent publicly-traded companies. As a result, shareholders at the time of the spin-off own shares of two companies rather than one.  Boards of directors, managers and investors believe that certain businesses may command higher valuations if owned and managed separately rather than as part of the same enterprise.  An added benefit is that a spin-off is commonly completed on a tax-free basis to both the originating public company and the shareholders.

Specific reasons often cited in support of spin-offs include an enhanced business focus (allowing each business to concentrate on its own strategic and operational plans), a distinct investment identity (creating more of a pure-play, which may be viewed more attractively by investors), a more fitting capital structure (catering to the specific capital requirements of each entity) and management motivation through stock-based compensation (having stock performance more closely aligned with employees’ specific contribution).

On the other hand, spin-offs have disadvantages such as the loss of critical mass and cost synergies, reduced diversification, disruption to businesses during the process, the actual costs involved (estimated to be as high as 1% of total revenues in some cases) and stock price uncertainty and volatility.

In ever greater numbers, companies have been undergoing spin-offs.  After a lull during the 2008 recession, the pace of separations has grown to record levels currently approximating fifty spin-offs annually.  Beyond the aforementioned rationales, catalysts today include investors’ preference for pure-play investments, supportive low-cost debt (used to fund an unleveraged entity or to provide a leveraged dividend) and increasing activist shareholder pursuits.

Gap’s chairman, Robert Fisher, commented, “Old Navy’s business model and customers have increasingly diverged from our specialty brands over time, and each company now requires a different strategy to thrive moving forward.”  Gap created Old Navy in 1993.  Today, Old Navy has annual sales of $7.9 billion while the remaining portfolio generates annual sales of $8.7 billion.  Perhaps underappreciated, Old Navy had positive comparable store sales of 3% last year whereas the Gap brand declined 5% and is closing 230 stores.  Old Navy has succeeded by mimicking fast fashion brands and serving the demand for cheap fashionable clothes quickly and by having the fastest supply chain among the Gap brands.  Investors applauded the spin-off announcement by driving Gap’s share price up 19% the following day (a spin-off process is lengthy, and the transaction is not expected to be completed until 2020).

Gap has company.  VF Corporation announced in August that it’s spinning off its denim brands (Wrangler, Lee, Rustler and Rock & Republic) into a separate public company (to be named “Kontoor”) so that it can focus on its faster growing activewear and lifestyle brands including The North Face, Timberland and Vans.  Other recent spin-offs include Electrolux and its Professional division, Brunswick and its Fitness brands, eBay and PayPal, Energizer and its Personal Care brands, and Sears and Land’s End.

So what can shareholders hope for these spin-offs to achieve financially?  This is a case where investors hope that past performance is indeed an indicator of future results.  A Standard & Poor’s report in February showed that its Spin-Off Index returned 22.4% annually over the last ten years compared to its Broad Market Index returning 14.6%. The Bloomberg US Spin-Off Index outperformed the S&P 500 on a total return basis 512% to 314% over a recent thirteen year period.

Thus, there’s a lot of support for well-conceived spin-offs.  Perhaps Gap and VF should now consider another Aristotle quote -“Well begun is half done”.  Let’s see how these play out.


Headlines of the Week

Gap will split into two publicly traded companies, with Old Navy as a stand-alone; stock surges

Gap Inc. said Thursday it will split into two independent publicly traded companies — one of just Old Navy, and then a yet-to-be-named company, which will include its other brands like Banana Republic and Athleta. Its shares surged more than 20 percent in after-hours trading on the news. Following a review by Gap’s board of directors, “it’s clear that Old Navy’s business model and customers have increasingly diverged from our specialty brands over time, and each company now requires a different strategy to thrive moving forward,” Gap board Chairman Robert Fisher said. Gap said the new company, which it’s currently referring to as “NewCo,” should make roughly $9 billion in annual sales. It will include the namesake Gap brand, Banana Republic, Intermix and athleisure lines Athleta and Hill City. Old Navy, meanwhile, brings in about $8 billion in annual sales by itself. This brand has notably been the strongest of the Gap Inc. family, as Gap’s namesake label has struggled to grow sales of late.

New grocery store business coming from Amazon Inc. aims to launch a new retail grocery store business separate from its Whole Foods Market subsidiary, The Wall Street Journal reported. Seattle-based Amazon already plans to open a grocery store in Los Angeles as soon as this year, and the company has inked leases to open two other locations in early 2020, the Journal said Friday, citing anonymous sources.



Apparel & Footwear

Adore Me eyes sales bump with Belabumbum acquisition

Direct-to-consumer lingerie brand Adore Me has acquired nearly 20-year-old maternity brand Belabumbum for an undisclosed amount. The company sees a lot of opportunity within what Voltaire said​ is a maternity apparel market expected to reach $7 billion by 2023. As a leader in the space, selling wholesale to Nordstrom, Macy’s and Lord & Taylor, Belabumbum also provides category expertise. Belabumbum ships about 10,000 orders per month. Belabumbum, with about five employees based in Washington, D.C., will continue to operate independently and no jobs are expected to be cut. The brand, which will benefit from Adore Me’s growing team, production capacity and new New Jersey distribution center, may move to New York, where Adore Me is based.

How Vans Keeps Its Cool

For decades, Vans has had what every shoe brand now desperately wants: frequent, unpaid appearances on the feet of actors, musicians, even chefs. The 53-year-old sneaker brand got its big break when Sean Penn happened to wear Vans checkerboard slip-ons in the 1982 film “Fast Times at Ridgemont High.” Turning that cultural cache into consistent profits took more deliberate engineering. The brand was acquired at a low point in 2004 by VF Corp., a Greensboro, N.C.-based conglomerate that owns more than 20 apparel brands, including Wrangler, Timberland and The North Face. With about $3 billion in revenue last year, Vans is the largest brand at the sixth-biggest US apparel company, according to Euromonitor. Now, Vans is at the centre of plans at VF Corp. — founded in 1899 as a glove maker — to adapt to a retail landscape that has not treated other century-old apparel makers kindly.


Athletic & Sporting Goods

Nike Tops List of Most Valuable Fashion Brands, but Adidas Is Gaining Ground

When it comes to the value of its brand, Nike is miles ahead of its competition — or rather $14 billion ahead, according to Brand Finance’s annual ranking of the top 50 apparel and accessories brands by value.  The Oregon-based sportswear giant came in at the head of the list, with a brand value of $32.4 billion, a gain of 16 percent over last year. The consulting firm credits this boost in part to Nike’s strong financial results: The company reported double-digit sales growth going into the holiday season, with healthy performance in all international markets.


Peloton Picks Goldman Sachs, JPMorgan to Lead IPO

Peloton Interactive Inc. has chosen Goldman Sachs Group Inc. and JP Morgan Chase & Co. to lead its initial public offering, which could value the home exercise startup at more than $8 billion, according to people familiar with the matter. Banks took part in a competitive pitching process, known as a bake-off, over the past few weeks. Founded in 2012, Peloton sells exercise bikes and treadmills with tablets attached that stream live fitness classes. The cheapest bike package retails for $2,245, with subscribers paying a $39 monthly fee to take classes. Peloton raised $550 million in a funding round last year that valued that company at $4.15 billion. The company said at the time it expects the financing to be its last before an IPO.

Puma signs record-breaking $860 million partnership with High Profile Soccer Club, Manchester City

German sportwear manufacturer Puma signed a long-term strategic partnership with current English Premier League champions Manchester City. It will be taking over from Nike as it seeks to make up for losing another of its Premier League teams, Arsenal to rival Adidas from next season. The official size of the deal has not been disclosed but it’s reportedly a decade-long agreement valued at around £65 million ($86 million) a year.

Cosmetics & Pharmacy

E.L.F. Beauty to Close Stores, Focus Online; on Hunt for CFO

A digitally native brand is exiting brick-and-mortar. E.L.F. Beauty said it would close all 22 of its stores as it looks to focus on expanding its brand in national retailer and digital channels. E.L.F.’s stores contributed 5% of company sales in 2018. In addition, E.L.F. announced its president and CFO, John Bailey, will step down from his role effective March 31, 2019. The company is working with a national search firm to hire a new CFO. Bailey’s responsibilities as president will be absorbed by E.L.F. CEO Tarang Amin and members of the executive team.

Hy-Vee Acquires Weber & Judd Pharmacies in Minnesota

Hy-Vee has acquired the business of all Weber & Judd pharmacies in Minnesota, the company announced. Weber & Judd has served the Rochester, Minn. area since 1862. Patient files will automatically transfer to Hy-Vee, and the pharmacies will be named Hy-Vee HealthMarket Rx locations. The Weber & Judd pharmacy inside the Hy-Vee Barlow Plaza location will be rebranded as a Hy-Vee pharmacy, and patient files will remain at this location. In addition to traditional pharmacy services, Hy-Vee HealthMarket Rx locations feature text message notifications, free prescription delivery, automated refill ordering, immunization services, free blood pressure checks, private medication consultations and a registered dietitian available for nutritional consultations.

Youth To The People Receives Minority Investment from Sandbridge Capital and Carisa Janes

Prestige superfood skincare brand Youth To The People has partnered with leading global consumer brand investor, Sandbridge Capital, and beauty industry veteran Carisa Janes. “We are delighted to be partnering with this best in class superfood powered beauty brand that Youth To The People so clearly embodies.” said Sandbridge Founding Managing Partner Ken Suslow. “Joe and Greg are already well on their way to building exactly the type of truly authentic high growth innovator in the skincare space where Sandbridge can apply our global brand building expertise to best effect.” Carisa Janes, founder of Hourglass Cosmetics, added “Youth to the People is a next generation, purpose-driven brand. Greg and Joe’s product expertise, creative intuition and meticulous eye for detail have created a unique and approachable brand with a focus on inclusivity.”


Discounters & Department Stores

Macy’s announces multi-year restructuring plan

Macy’s announced a multiyear money saving restructuring program that it says will pare down its management structure and make the department store more nimble in a fiercely competitive environment. The plan would result in cost savings of $100 million. A Macy’s spokesperson said that the job cuts would include the elimination of 100 vice president positions. The department store chain’s move comes as it released fourth-quarter results that beat Wall Street expectations on sales and profits.

JC Penney to close stores as sales tumble, warns more closures are likely ahead

J.C. Penney on Thursday reported earnings and sales for the holiday quarter that topped analysts’ lowered expectations, as the company said it was successful in reducing a glut of unsold inventory in 2018. But revenue was down sharply, and the company declined to provide a forecast for 2019 as it works to improve its financial performance. Part of its turnaround plan entails shutting 18 department stores in 2019, including three it already announced when it warned of dismal holiday sales last month. It said same-store sales at those 18 stores have been “significantly below” other locations, thus dragging on its overall business and running up expenses.

Neiman Marcus, lenders reach financial agreement that includes MyTheresa

Neiman Marcus and majority noteholders and term lenders have reached an agreement to extend the maturities of the notes and term loans by three years, according to documents filed with the SEC on Friday morning. The company has nearly $5 billion in debt. In the document, the company noted it resumed on and off again confidential negotiations on or around Feb. 13, during which the company pitched presentations that included MyTheresa — the e-commerce unit the company transferred to another part of its business last summer.



Emerging Consumer Companies

ThirdLove raises $55 million round led by L Catterton

ThirdLove, the San Francisco-based intimates brand, has raised $55 million to fund expansion. The investment was led by L Catterton and Allen & Company and will be used to introduce more sizes, increase product offerings, and enhance the technology the company uses to improve fit.

Rockets of Awesome receives strategic investment from Foot Locker

Rockets of Awesome, the children’s apparel business offering seasonal subscription boxes and individual items, raised $19.5M in its Series C round. The investment was led by a $12.5 million round by Foot Locker, with participation from existing investors including Forerunner Ventures, August Capital, Burda, Signalfire, and General Catalyst. Following the funding, Rockets of Awesome will launch its own “mini-stores” within select Kids Foot Locker stores.

Allbirds announces expansion in China, plans to open store in Shanghai

Allbirds, the San Francisco-based footwear brand, announced plans to open its first store in China at Shanghai’s Taikoo Hui shopping mall this spring. In additional to opening its first store outside of San Francisco, New York, and London, Allbirds is partnering with Chinese e-commerce giant Alibaba to sell footwear on the Tmall platform. Allbirds will also sell product from in China on its own brand website.



Grocery & Restaurants

P.F. Chang’s completes sale to TriArtisan Capital Advisors

Investment firms TriArtisan Capital Advisors LLC and Paulson & Co. Inc. announced that they have completed the acquisition of casual-dining Asian restaurant chain P.F. Chang’s China Bistro Inc. from private equity firm, Centerbridge Partners, L.P. for an undisclosed amount, according to a press release. The company’s sale to TriArtisan Capital Advisors was announced in January in a notice sent to investors. Centerbridge will allegedly retain ownership of Pei Wei Asian Kitchen, which split from P.F. Chang’s in 2017. At the time, Bloomberg estimated that the value of the impending deal was about $700 million.


Dine Brands looks to acquire a regional chain

Dine Brands Inc. CEO Steve Joyce is on the lookout for a third restaurant brand to add to the current portfolio of Applebee’s and IHOP, and Joyce outlined some of the criteria he’d want in a third brand. The target chain would be regional with potential to grow nationally, under $100 million in revenue with 40 to 80 units, Joyce said in an earnings call. “It has to come with a management team that is self-contained because we are not going to distract from our major brands bringing in a new brand. So, we need a founder and team that’s coming in that wants to grow their concept nationally with us,” Joyce said. “What we provide is franchising expertise, capital and franchisees,” he added. The timeline for the acquisition is loose at 18 months, but Joyce stressed that the Glendale, Calif.-based Dine Brands would only pull the trigger on an acquisition that franchisees are enthusiastic about building.


Kraft Heinz reviews options for its Maxwell House coffee business, including possible sale, as looks to reshape its food empire

Kraft Heinz, the ailing food giant, has tapped investment bank Credit Suisse to review options for its Maxwell House coffee business, which could include a potential sale, people familiar with the matter tell CNBC. The coffee business has roughly $400 million in earnings before interest, taxes, depreciation and amortization, the people said. Based off valuations for other sales of consumer brands, a sale could fetch a price of at least $3 billion, they said, though cautioning its price would depend on buyer interest. The sale of the coffee business will be one of a string of divestitures for Kraft Heinz, the people said, as it looks to reshape the empire put together by its private equity backer 3G Capital.

Home & Road

The Home Depot Invests in Same-day Delivery Service

A start-up service that leverages unused passenger vehicle capacity for same-day deliveries has received funding from a retail giant. Roadie has raised a $37 million oversubscribed Series C funding round with investments from The Home Depot, as well as Warren Stephens and Eric Schmidt’s TomorrowVentures, among others. This round brings the total funding raised to date to $62 million, including a previous investment from Walmart. Roadie, which operates in 224 metropolitan statistical areas across the country, uses an “on the way” delivery model that places deliveries in passenger vehicles already heading in that direction. Launched in 2015, Roadie now has over 120,000 drivers and says it can same-day deliver anything up to 100 miles around every major city in America. “The Home Depot is committed to building the fastest, most efficient supply chain in home improvement, and our customers have made it clear that same-day or next-day deliveries to their homes and jobsites are a critical part of that,” said Mark Holifield, executive VP, The Home Depot Supply Chain.

Rent-A-Center Q4 earnings, sales beat expectations

Lease-to-own giant Rent-A-Center posted a steep drop in fourth quarter profit but a jump in sales and same-store-sales gains, numbers that beat analyst estimates and pushed the company’s stock price up more than 4%. Net earnings for the period ended Dec. 31, decreased to $1.7 million, or 3 cents per share, compared with $34.8 million, or 65 cents per share, for the same period last year. Excluding special items, fourth quarter earnings per share were 35 cents vs. a 41-cents-per-share loss for the fourth quarter last year. Total revenues for the quarter increased 3.6% to $661.8 million from $639 million for the same quarter last year. A same-store sales increase of 9.1% was partially offset by U.S. store closings, the company said.

JCPenney to Close Remaining Furniture Stores

JCPenney will close its nine remaining home and furniture stores this year as part of a broader store closing plan for poor performing locations. The struggling department store chain announced the plans in conjunction with its fiscal fourth quarter earnings report. The move, it said, further aligns the company’s “brick-and-mortar presence with its omnichannel network” and enables “capital resources to be reallocated to locations and initiatives that offer the greatest long-term value potential.” The furniture store closings are on top of 18 full-line stores closing for the department store retailer, including three it announced in January. Nearly all are expected to close in the second quarter.

Jewelry & Luxury

Traditional wristwatches are making a comeback – thanks to millennials

The traditional wristwatch is making a comeback – and it’s mostly thanks to millennials.

The younger generation may have grown up telling time on cell phones and digital devices, but many are now turning back time and returning to the days of the traditional wristwatch. Watch sales jumped 8 percent last year, according to the NPD Group, a market research group. Tom Lewand, CEO of Detroit-based watch-making company Shinola, said while many are still opting for smartwatches, there’s been a “tremendous amount of enthusiasm” for the traditional timepieces.

Sterling, Alex and Ani Settle Dispute

Sterling Jewelers has reached a mutually agreeable settlement with Alex and Ani after a yearlong dispute over a supply deal. Judge Sara Lioi dismissed the case without prejudice, according to a February 14 motion Sterling, a division of Signet Jewelers, filed in an Ohio court. The companies will bear their own legal costs. “The matter was resolved and settled to the parties’ mutual satisfaction,” David Bouffard, Signet’s vice president of corporate affairs, told Rapaport News Tuesday.

New Ad Campaign Targets Women Who Buy Their Own Jewelry

The Diamond Producers Association, the group formed in large part to maintain consumer interest in buying mined diamonds, unveiled the latest round of “Real is Rare” ads last week. Called “For Me, From Me,” the campaign is directed at the growing number of women who buy jewelry for themselves. According to De Beers’ 2017 Diamond Insight Report, women buying diamond jewelry for themselves has risen steadily since 2005 and now represents more than one-third of all diamond jewelry purchases in the United States.


Office & Leisure

Staples to introduce its own coworking concept

Staples and Workbar are going their separate ways. The retailer and the coworking company announced they will both continue to provide coworking services, but separately and with distinct offerings. Staples will introduce a new coworking concept, called Staples Studio, focused on the needs of small business customers. The new offering will make its debut in the chain’s home state of Massachusetts, in Staples’ stores in Brighton, Danvers and Norwood, the same locations where Workbar had established its coworking outposts some two years ago. Current Workbar members at the three stores will be able to remain at those physical locations, utilizing Staples’ new coworking space, or transfer to a nearby Workbar standalone facility. (Workbar will continue to grow its footprint through stand-alone locations of 5,000 sq. ft. or more.)

Services fuel Office Depot growth

Office Depot on Wednesday reported a fourth quarter revenue rise based more on services than on retail: Total reported sales (combining the business and retail divisions) in the quarter rose 3% to $2.7 billion. Product sales fell 1%, while service revenues grew 34%, according to a company press release. Even in the retail division, services drove growth, with product sales falling 8% year over year, primarily due to lower sales volume, while service revenue rose 18%. Retail reported sales fell 6% to $1.1 billion in the quarter, as comparable store sales fell 5%. Office Depot and rival Staples are moving away from sales of office supplies, a category that has morphed from a specialty to a commodity.

Total reported sales for 2018 rose 8% to $11 billion, “largely driven by the addition of CompuCom, growth in the B2B distribution platform, and growth in service revenues,” the company said.

Petco shutting down one of its online businesses

Petco is absorbing its Drs. Fosters and Smith e-commerce business into

Petco acquired the veterinary-owned online pet supply company in early 2015 for $158.8 million. At the time, Drs. Fosters and Smith was one of the largest online pet retailers in the country. Petco expects 289 employees working at the facility will be laid off during a two-week period beginning March 10. Visitors to the Drs. Foster and Smith website are automatically redirected to the main Petco e-commerce site. A popup states “Doctors Foster and Smith is now part of the Petco family” and provides a 20% discount code for the customer’s first Petco order.

Technology & Internet

Best Buy shares soar as ‘Fortnite’ helps fuel earnings beat, strong holiday sales

Best Buy shares surged on Wednesday after the company reported earnings for the fourth quarter that topped analysts’ expectations, fueled by sales of wearables, appliances and smart home devices during the holidays. The electronics retailer said sales also got a boost from the somewhat unexpected popularity of the “Fortnite” video game. The electronics retailer has been making investments to keep its prices competitive, offer more services — like its in-home tech support — to shoppers, and bulk up its supply chain to be able to fulfill online orders from the back of its stores. Best Buy’s latest quarterly results show evidence those investments are paying off.


New York leaders wrote an open letter to Jeff Bezos asking him to bring Amazon HQ2 back to Queens

About 40 New York union leaders, local officials and business owners published an open letter in Friday’s New York Times asking Amazon to give Long Island City one more shot. In the letter, published as a full-page ad in the main section of the Times, the signatories try to persuade Amazon that most New Yorkers really do want the company — and its 25,000 jobs — in their city. The local leaders join New York Governor Andrew Cuomo in calls for the company to reconsider its Valentine’s Day announcement that it would no longer build part of its new headquarters in Long Island City after a frosty welcome from local politicians and local activists.


Amazon grabs a third of US ecommerce sales in 2018

Sales via (not including its app) accounted for 33.7% of all ecommerce sales in 2018, down from 35.1% in 2017, according to Rakuten Intelligence, which tracks email receipts from a panel 3.1 million online shoppers. By category, Amazon has more than half of the online market share in seven of 17 categories.


Finance & Economy

U.S. will formally abandon plans to raise tariffs on $200 billion of Chinese goods

U.S. Trade Representative Robert Lighthizer said that the trade deal he is negotiating with China would include a complicated enforcement mechanism that would involve regular consultations with Beijing and reserve the U.S. the right to assess tariffs for Chinese failure to carry out pledges.  Lighthizer also said the U.S. would take steps to formally abandon plans to increase tariffs by 25% on $200 billion of Chinese goods. This would have been a sharp increase from the 10% tariff that is currently in effect.

US Consumer Confidence Rebounds in February

American consumers were feeling more confident during the month of February after a rally in the stock market and an end to partial shutdown of the federal government. The Conference Board, a business research group, says its consumer confidence index rose to 131.4 from 121.7 in January. It was the first increase after three straight drops. The index measures consumers’ assessment of current economic conditions and their expectations for the next six months. Both rose in January. Consumers’ views of today’s economy were the sunniest since December 2000. “Consumers expect the economy to continue expanding,” says Lynn Franco, the Conference Board’s senior director of economic indicators. Economists pay close attention to the index because consumer spending accounts for about 70 percent of U.S. economic activity.

U.S. Economy slows to 2.6% growth in fourth quarter, but still shows a lot of muscle

A slumping housing market and bigger trade deficit softened up the economy in the final three months of 2018 after a torrid spell of growth in the middle of last year, but consumers and businesses still showed plenty of resilience despite rising headwinds.

Gross domestic product, the official scorecard for the economy, grew at a 2.6% annual pace in the fourth quarter, the government said Thursday. Economists polled by MarketWatch had forecast a 1.9% growth rate. The U.S. had expanded at a lusty 3.4% clip in the 2018 third quarter and 4.2% in the second quarter. At 2.9% annual growth, the dropoff at the end of 2018 kept the U.S. from reaching 3% annual growth for the first time since 2005.