The following JOSB 4M analysis comes to us from Michael McIlhinney. My brief comments and analysis follow:
"Recently, Jeff H., a newbie to the Rule 1 blog, said that he was looking at Jos A. Bank (JOSB) as a possible Rule 1 business albeit one that is currently trading above its apparent Margin of Safety (MOS). However, we shouldn’t just throw out JOSB because current price is above the calculated MOS. This is when we should do our homework to see if JOSB is a great, growing company worth owning at a MOS price. We know that, although the price will change daily, we need to focus on JOSB’s value. If JOSB has great future value, then we need to be ready to buy it once it drops under the MOS price. We do the work now, so that we can be ready to act if/when the price drops. As I said in my Gildan post, JOSB is a company that I’ve followed for a while and really like, so let’s take a trip through the four M’s, and check out the sticker/MOS.
What is JOSB?
Jos. A. Bank Clothiers, Inc., is a Maryland-based company that has been around since 1905. It is one of the nation's leading retailers of men's classically-styled tailored and casual clothing, sportswear, footwear and accessories. JOSB sells its full product line in over 500 stores in 42 states and the District of Columbia, a nationwide catalog and an e-commerce website. Although its been around since 1905, it’s current concept has really only been in place since March 2001, and by all accounts, its current business model is working quite well.
MEANING
For me, JOSB has a ton of meaning. It’s where I’ve purchased most of my work attire for the past 10 years or so. Why? Simple, it’s a company that delivers high quality products, with a nice selection, at a GREAT price. It’s also the store I turned to for tuxedo rentals for my wedding. In the past decade, I’ve had few negative experiences, and each time my problem was resolved simply and satisfactorily, which is why I’m still a customer (unlike my experiences at Men’s Wearhouse).
Let’s take a look at how JOSB competes in this market (this will also be important for Moat discussed below). JOSB states that they focus on “Four Pillars of Success” which include: Quality, Service, In-Stock Inventory, and Innovation. JOSB competes by offering dress clothes at good price points and they focus on building customer loyalty. They offer their suits in three tiers of fabric which helps them market to a broader range of customer. JOSB has 544 brick and mortar stores to shop in, but they also sell through a mail-order catalog business and their website. (They have 507 Company-owned Full-line Stores, 23 Company-owned Outlet and Factory stores and 14 stores owned and operated by franchisees.)
Recently in 2010, they started getting into the discount market by opening Factory Stores in outlet malls. So far, they have 16 Factory Stores and plan on opening more. The company plans on growing to 600 brick and mortar stores and up to 75 Factory Stores. This is one of the things that turned me off last year because I struggled to see where the future growth (next 10, 20, 50 years) would come from. Maybe increased same store sales, closing underperforming stores and opening new stores in better malls, or increasing their on-line and catalog presence. All of these are legitimate possibilities. And with on-line, there is less over-head than managing brick and mortar stores, so diving sales there can be a driver of future growth, but with dress clothes, I still like to in-store customer service.
Some examples of JOSB’s implementation of the “Four Pillars” from the 2010 10K include:
- Increasing the level of quality level of its products by maintaining stringent design and manufacturing specifications;
- Further developing its multi-channel retailing concept by opening more stores and enhancing direct selling,”
- Providing outstanding customer service and emphasizing high levels of inventory fulfillment for its customers,
- Expanding its product assortment, including further developing the “Three Levels of Luxury”
- Continuing to add innovative new products; and
- Increasing its product design and development capabilities while eliminating middlemen in the sourcing of its products.
Importantly, JOSB’s designs are focused on updated classic clothing. As such, it experiences much less fashion risk than other retailers that offer fashions that change more frequently.
Sourcing: JOSB sources 97% of its products from international markets, with only 3% coming from the US. Over 50% is sourced from the Asian market. JOSB purchases the raw materials for approximately 9% of its finished products, (72% of the raw materials are sourced from five vendors), that are subsequently sent to manufacturers for cutting and sewing. The remainder of its finished products is purchased as finished units, with the vendor responsible for the acquisition of the raw materials based on JOSB’s specifications. JOSB transacts substantially all of its business on an order-by-order basis and does not maintain any long-term or exclusive contracts, commitments or arrangements to purchase from any finished goods supplier, piece goods vendor or contract manufacturer. The Company ordinarily places orders for the purchase of inventory approximately 6 to 12 months in advance. (I included this information from the 10K because it’s important to think about JOSB’s exposure to raw costs such as cotton and wool.)
How do they drive sales? JOSB seems to be big on promotions to drive their sales. “Buy one get two free” deals are the norm with JOSB. A negative to this business model is that I think they have trouble getting anyone to pay full price for their goods. It’s tough to wean your customer base off of these deals. Most people will just wait for the next promotion to start.
Red Flags: The red flags I identified include: 1) lack of future growth based on limited number of new stores that can be opened prior to market saturation; 2) excessive reliance on promotional activity; 3) risk of a recession due to European and US debt issues. Recently, during JOSB’s 3Q conference call (which beat estimates), they cautioned that the 4th Quarter has started slower than expected (sound familiar? See our Gildan discussion) with revenue at existing stores decreasing in November 2011. However, they are cautiously optimistic that their 4Q numbers will turn out okay. [Hey, Jeff H…did you identify any others?]
MOAT
There appear to be at least two moats here. First is a brand moat. Almost all of the merchandise that JOSB sells uses the JOSB label. They also sell some branded shoes that make up only 3% of net sales. Second is a price moat. JOSB sells their high quality merchandise at reasonable prices (especially when buying during the promotions).
Their main competition is Men’s Wearhouse, but they also compete against all retailers such as Nordstrom, Brooks Brothers, Lands End, Macy’s, Kohls, etc. What is it that ensures that JOSB can beat these guys? I think it comes down to customer loyalty resulting from good merchandise at a great price, quality customer service, and product availability. Don’t get me wrong; I’d love to be able to shop at Nordstrom all of the time – great products and awesome service – but my wallet gets abused there! JOSB states that it “is one of only a few national multi-channel retailers focusing exclusively on men’s apparel, which [it] believes provides a competitive edge.” Based on JOSB’s past performance, they seem to have a proven, durable competitive advantage.
MANAGEMENT
R. Neal Black is the current CEO. He has been an officer of the company since 2000, which is around the time they began to morph into their current (successful) business model. He earns approximately $750,000/yr and had a healthy bonus in 2009 of $230,000. His total compensation (incl. stock) in 2011 is about $4 million.
David E. Ullman is the Executive Vice President-CFO. He has been with the company since 1995. His current compensation is about $450,000/yr and his total compensation is about $1 million.
Robert N. Wildrick is the current chairman of the board of directors and the former CEO from 1999-2008. His compensation is approximately $1 million - $850,000 of which is for “consultant fees” and the rest is due to his work as chairman of the board. I wonder if the former CEO is really providing consultant services or just collecting a check.
I did not find any negative information on the management team. JOSB seems to have solid stable leadership focused on continuing to grow the JOSB brand without incurring bad debt. In fact, they have no long-term debt.
MARGIN OF SAFETY
JOSB meets the requirement of having growth rates in excess of 10% for a 10-year period.
ROIC: 11.6% (10yr); 14.3% (5yr);
BVPS: 23.2% (10yr); 24% (5yr);
EPS: 18.8% (10 yr); 30% (5yr);
Sales: 15.5% (10yr); 13% (5yr);
Cash Flow: 23% (10 yr); 113% (5yr).
The analyst’s 5-yr growth rate is 15%. (Note: there is only one analyst’s estimate.) The 10-yr PE values range from 6 to 16, with the historical 10yr average PE being 12.2.
Now for the all-important part of choosing the proper numbers to arrive at JOSB’s value. Using the more conservative 15% growth rate (i.e., analyst’s estimate) and a PE of 14 (the high end of the historical PE range because we plan to sell in an excited market), we get a Sticker Price of $47.56, so our Margin of Safety is $23.78. JOSB is currently selling for $49.89, which is ABOVE our sticker price.
Should we be using different inputs here? When I originally valued JOSB last year, I used the BVPS growth rate instead of the analyst’s estimate because I didn’t want to rely on what one random analyst said.
Using a more aggressive growth rate of 23% (BVPS) and a PE of 14, the sticker price jumps to $92! Look at how important our assumptions are! I never ended up buying JOSB when it was around $40 because I wasn’t comfortable with its future growth prospects or the estimated growth rate based on BVPS.
One final check - Investools says the historical growth rate is 18.77. Using a growth rate of 18 and a PE of 14, the sticker becomes $61. JOSB just does not appear to be even close to being on sale at this point.
If the stock were to drop below $30 (maybe because the 4Q of 2011 turns out worse than expected, but the underlying fundamentals stay strong), would JOSB be worthy of stockpiling?"
NOTE: There are always quibbles available to us for any 4M analysis but fewer in this one than in most of mine. Nice job, Mike. I'd suggest that a Brand moat and a Price Moat tend to be almost opposed to one another for most businesses. For example, Walmart has a heck of a brand but take away the low price moat and its gone. The Price moat IS the brand. That's quite different than say Harley or Coke. One of the things a Brand moat let's the company get away with is raising prices. Its a good test of a Brand - Can they raise their prices with inflation easily or does it kill their sales? With JOSB Mike argues that they rely on big price discounts almost too much. Still, its a quibble because JOSB definitely has a brand and it is about a high quality for a low price. Similar in many respects to Gildan. So the question is, "Can JOSB keep its margins high? If so, I'll give them a Brand moat. If not, its all about Price.
As to Management: I like to look at three things when evaluating management: Passion for the business, Owner orientation, Honesty. A survey of Google articles helps get an overview. Usually if the CEO is a felon, it will show up someplace in an article. Also if the CEO is a mercenary, that will show up as moving from one industry to another. But we can get some objective info by looking at ROE and ROIC: are they moving up or are they moving down? JOSB managers are holding their ROE/ROIC steady and its a good number - around 18% for both. And then check Debt - the other objective number that is often where we can see the Devil sneaking into a business. In this case they have no debt. Good sign.
There is a lot to like in your analysis and in JOSB. But at the end of the day, once we have the kind of predictability we see in these numbers, its all about valuation, isn't it? What is this business worth as a business, and here I think you nailed the MOS valuation, Mike. I get almost the same numbers on the MOS. From a discounted cash flow point of view, this is basically selling for what its worth - right at the Sticker.
However, we always look at value from a few other perspectives: Tangible Book Value, Payback Time and Yield. TBVPS is BVPS minus intangibles. JOSB doesn't have any so TBVPS is BVPS in this case - about $18 per share and selling for $50 so no so good on an equity valuation at almost 3:1. Under 1:5 to 1 on a good company is interesting and under 1:1 starts to be compelling.
Payback Time, the amount of time it would theoretically take to get your money back from earnings is another way to see the value. This is predominantly used by Private Equity investors. Since they can't easily exit an investment knowing how long it will be before you get your money off the table is a key valuation technique. Anything under 8 years is awesome and that's where JOSB gets interesting.
Here is my Toolbox valuation page on JOSB:
I used a 12% growth rate, lower than Mike's 15%, and an 18 PE, higher than Mike's 14. My tools show a range on PE from 5 to 20 rather than 16 so that's where the PE difference comes from. And although an analyst shows 15% for growth, I don't see sales getting anywhere near that. They are barely sufficient at 9% for a buy. Ultimately if sales aren't keeping pace with the other Big Four growth rates, the other 3 are going to come down. Still, the others are in the upper teens so I'll compromise and hope things get better for sales down the road after the recession/depression we're in.
Notice the Payback Time of 8 years (the Tool default) is $45. The current price is only 10% above that which means this is on sale.
Yield is the rate of return the earnings would give you based on the current price. In a market driven interest rate environment (which we emphatically are not in right now) an earnings yield above the T-Bill rate is the bare minimum. In this case the ten year treasury is at 2% and the Yield here is at 6%. That's quite a spread and an indication of a low price.
Based on Payback Time and Yield, JOSB looks buyable to me IF you truly understand the business - how it competes. So I think it comes down to Moat. Dig in here to see who is out there who can blow these guys up and how they might do it. If you can't find the competitor who can do it, that's a moat.
Now go play.