Retail Update 1

Everyone already probably knows this but I am a big fan of buying stocks that have gotten completely clobbered. I’m talking multi-year lows type of stocks. Stocks that no one likes and few will touch.

I gravitate towards unloved and out of favor industries. Cyclical businesses that go through brutal business cycles. The once darlings of their industry that are now shunned and whispered about in small value circles.

This gravitation towards the unloved has lead me down the cyclical path of retail companies — mainly brick and mortar clothing companies.

I like the retail industry for mainly just one reason. The stock price of retailers tend to trade wildly. Up big one quarter as the economy looks solid and down a whole lot the next quarter as everyone worries about Amazon taking over the world or consumer spending eroding.

Don’t get me wrong. Operating and owning a retail company is tough business. The business model has high fixed costs in nature as you own a fleet of rented locations that need to be ran by physical labor.

When the business cycle turns your rent typically don’t decrease and you still have to have the same number of employees to run each store. The de-leveraging is real and cash flow can be burned in a down cycle.

In addition, if you don’t have a skilled merchandiser running the company, owning the wrong inventory will result in significant markdowns and could kill an entire few years.

The ugly nature of the retail business model has naturally attracted me to it as companies in the space get priced by Mr. Market at a low enough price where the deep value investors like myself start picking up shares.

Retail has been big in the news lately as Q1 results are dropping in the space. Overall, the space is getting hit again as it is comping up against a tough Q1 where rampant stimulus spending, combined with pent-up demand, boosted numbers.

In addition, higher inflation appears to be eroding the purchasing power of some customers and some retailers appear to have overstocked their inventories where significant mark-downs could follow.

The company I am writing about today is a beaten down retailer that caught a bid mid-market and was one of the few retailers that ended up for the day (up 14% on the high and closed up 9.5% at the close).

I’ve written about this company previously to Alpha Letter Pro members and have continued to average down in the stock on deep red days.

There are a few things I like:

• The stock traded at a high of $107 just one year ago and is now at $28

• The management team is selling assets, boosting their already impressive cash balance

• No debt ensures bankruptcy is not an option

• 60% short-interest making it one of the most shorted stocks in the market today

• An activist investor took over the company and has refreshed the board.

• Ample cash reserves to continue buying back shares and returning capital.

• Best product merchandising seen in multiple years from an experienced executive who helped run this same playbook at Five Below (50% CAGR over a ten year period).

• The company generated significant cash flows during the COVID-19 pandemic and also during the Great Recession which provides a sense of security for investor believing we are headed into a deep recession

• Mid to long-term growth story that is still intact.

I hope you enjoy my updated research note on this name. For Alpha Letter Pro Subscribers, please see my original research note for a background on the story and company.