UPDATE COMPANY True Religion Apparel, Inc.
February 25, 2010
(TRLG/NASDAQ)
Eric Beder, 212-702-6619 Jennifer Sung, 212-702-6688
[e-mail] [e-mail]
True Religion Catechism of Long-Term Planning Creates a Robust erm Business Model
Investment Summary We are reiterating our Buy rating, $35 target price and 2010 EPS estimate and rolling out double digit top and bottom-line growth projections for 2011 after the company handily line beat 4Q09 expectations and rolled out 2010 guidance that is highlighted by True Religion taking the correct steps to build the management infrastructure for a true lifestyle brand and further reduce its dependence on the off-price channel, both necessary actions to create a more compelling business model with the ability to register premium and consistent returns. Further, with $4.45 per share in cash and no debt, we beli . believe the current valuation of 8.6x our new 2011 EPS estimate of $2.42 is among the most compelling values in our entire universe; we reiterate our Buy rating on TRLG. re Discussion 4Q09 EPS of $0.59 was a nickel above our projection, $0.04 above consensus, and up 11.5% YoY, as better-than-expected results at the direct expected direct-to-consumer business resulted in solid margin expansion, which was only slightly offset by continued material declines in the domestic wholesale business. 4Q09 record revenue of $92.8 million rose 27.2% beat our estimate by $10.6 27.2%, million and was $8.3 million above consensus The upside was primarily driven by consensus. the Consumer Direct channel, which registered sales of $45.2 million, up 84.8% YoY and $8.1 million above our expectations, as the unit registered a +22.3% comp and e a 67% increase in the store base (from 42 to 70 units at year end). Perhaps more se impressively, even with the shift to lower-priced denim, the average sales price for denim remained stable at $240 for women (down $7) and $262 for men (d (down $13), as the company's high-end styles continued to strongly resonate in the end quarter and the emphasis on training and product knowledge helped drive stronger conversion levels. At the domestic wholesale unit, revenue of $31.6 million was $0.7 million above our expectations and down 13.1%, reflecting the continued promotional department store environment and the channel's tight inventory levels; we also believe the domestic wholesale channel results were affected by the recent shift to an internal sales force. Finally, international sales of $14.6 million remained strong, up 24.3% and $1.7 million above our projections, as the Asian markets continued to rebound under the aegis of the company's direct management and Europe, primarily the United Kingdom a and Germany, remain standouts.
Price 52-Week High/Low Week Shares Outstanding (mm) Market Cap. (mm) ) Average Daily Volume EPS Mar Prior Jun Prior Sep Prior Dec Prior FY Prior Consensus P/E FY Rev. (mm) FY09A FY $0.32 $ $0.45 $ $0.58 $ $0.59 $ $0.54 $ $1.92 $ $1.87 $ 10.8x 10.8 $311.00 311.00
Buy Target Price: $35
$20.78 $28.90 - 7.80 25.35 $526.73 458,404.00 FY10E $0.31 $0.34 $0.45 $0.47 $0.61 $0.64 $0.70 $0.63 $2.09 $2.13 9.9x $359.36 FY11E $2.42 $2.24 8.6x $409.69
Source: BigCharts.com
Please see the second to last page and last page of this document for important disclosures.
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COMPANY UPDATE
True Religion Apparel, Inc. (TRLG/NASDAQ)
Operating margin of 25.7%, while 50 bps below our projection and down 150 bps YoY, represented progress on a number of fronts. The key positive was the Consumer Direct divisions, which leveraged the strong comps to drive the first operating margin gains in five quarters (up 360 bps to 38.6%); better order flow also drove more full price selling. The domestic wholesale division was the key weak point, as the 19.8% result (down 1,120 bps) was the lowest in the last five years, as True Religion 1) allowed for markdown money, returns and credits to start fresh for 2010; 2) the sales decline further reduced leverage potential; and 3) the sales force, management ramp-ups and software upgrade costs primarily flowed through this division; we have conservatively assumed a limited turn going forward. For the international segment, operating margin of 43.6%, up 400 bps YoY, reflected the continued growth of the direct business in Asia, which has a higher overall margin. Inventory growth turns out to be a minor issue in a strong balance sheet at True Religion. At the end of the year, True Religion had: 1) cash per share of $4.49, up 75% YoY; 2) no debt; 3) inventories of $34.5 million, up 33.6%, only 24% above revenue growth in the quarter; the $8.7 million increase was primarily accounted for by new store growth, which added $6 million to the inventory line; that said, inventory per weighted average square foot fell 9%; we believe this will be the last quarter that inventory levels are materially above sales growth; 4) working capital of $166.6 million, or $6.77 per share, up 37%; the current ratio of 8.79:1.0, rose 170 bps YoY and 5) stockholders' equity per share of $8.04. International store expansion becoming a reality in 2010. The London store is now slated for a June opening, while Tokyo is on track for a 3Q rollout. The Tokyo store would be the company's first full price location in the channel, and the first in Japan to offer the entire line. In addition, True Religion is now on track to open its first Canadian store in Toronto (in the Yorkdale Shopping Center). We believe, if these stores are a success, that True Religion will begin setting up the infrastructure for a material international expansion; management continues to believe international markets could be as large as the domestic market (international sales were 17.5% of total sales in 2009). Taking the longer-term view will somewhat weigh on 2011, especially in 1H; we believe the shifts are the right thing if True Religion wants to become a true international lifestyle brand. We believe one of the somewhat misunderstood tenets of the True Religion story is the continued discipline and investment management has undertaken to create the infrastructure for True Religion to emerge as a truly global lifestyle brand, as opposed to many investors' viewpoint of the company as a high volatility, fashion only driven brand. We believe over the last few months management has taken a number of material steps which, while they will likely weigh on results in the short term, will allow for True Religion to create a materially more robust business model in the longer term. Key changes include: 1) the 3Q09 shift of the sales force to an internal only model, which should allow True Religion to become even closer to its key customer base and to more accurately gauge fashion and demand changes; the hiring of Seven for All Mankind's West Coast sales manager as the leader of the sales team adds instant credibility and deep market knowledge to the effort; 2) a continued shift away from the non-owned off-price channel; management plans to reduce off-price sales by $10 million in both 2010 and 2011; the goal is for off-price channel sales to represent less than 10% of total sales; a key piece of this strategy will be to reduce sales in off-price stores (i.e., Nordstrom Rack, Saks Off Fifth and Neiman Marcus Last Call chains) that conflict with the company's full price selling partners and tarnish the brand. Frankly, we believe this makes material sense in terms of driving more full price sales and maintaining the integrity of the True Religion brand; and 3) a deepening of the top management team with the January 2010 appointment of Lynne Koplin as COO, a 30-year industry veteran and other key appointees, including a new credit team, which allowed True Religion to end its factoring relationship. While the net effect of these shifts will be to dampen 2010 EPS by $0.27 and lead to flat 1H10 results, we believe it will be well worth it for the longer-term growth and sustainability of the company. Maintaining our 2010 EPS estimate of $2.09. That said, we have incorporated materially lower expectations for the domestic wholesale channel for the entire year, especially in 1Q10, a larger domestic store rollout (skewed somewhat more heavily towards outlets), stronger owned store returns and a lower tax rate. We now project a basically flat 1H10. Introducing 2011 EPS projection of $2.42, up 16%. Key assumptions include: 1) continued declines in the domestic wholesale business; if the planned $10 million decline in off-price locations is excluded,
Brean Murray, Carret & Co. Equity Research
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COMPANY UPDATE
True Religion Apparel, Inc. (TRLG/NASDAQ) domestic wholesale revenue is projected to be flat; 2) a further 29-store rollout; 3) an 80 bp increase in operating margins driven almost entirely by mix shifts; we project Consumer Direct revenue will account for 57.1% of total sales (up 500 bps from 2010); and 4) a 37.6% tax rate. Believe our target price of $35, or 14.5x our new 2011 EPS projection, is achievable. Management continues to lay the foundation for a more robust and enduring business model that should allow the company to better react to its customers, reduce overhang from fashion misses and create a true lifestyle brand; further, as investors recognize that True Religion is rapidly shifting to a growth retailing model (excluding corporate expenses, the Consumer Direct channel was 45% of total operating profit in 2009 [and a projected 59% in 2010]) we believe they will accord TRLG a higher multiple. We reiterate our Buy rating on TRLG.
Brean Murray, Carret & Co. Equity Research
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COMPANY UPDATE
True Religion Apparel, Inc. (TRLG/NASDAQ)
Brean Murray Carret & Co. True Religion Apparel, Inc. Income Statement, FYE December ($000, except per share items) Wholesale-US Wholesale-International Consumer Direct Corporate Net Sales Gross Profit Wholesale-US Wholesale-International Direct Consumer Corporate Gross Profit Operating Income Wholesale-US Wholesale-International Consumer Direct Corporate Operating Income Arbitration Cost/I BankExp Interest Expense (Income) Pretax Income Taxes Net Income - Reported "Normalized" Net Income EPS - Reported Diluted "Normalized" EPS Shares Outstanding (000)
(2) Assumes 4Q06 store openings average 1 month of sales in 4Q06.
2008A YEAR Dec-08 $153,549 39,730 75,315 1,406 270,000 78,808 19,117 57,670 1,406 157,001 47,598 16,615 27,810 (23,146) 68,877 0 (1,065) 69,942 25,570 44,372 44,372 $1.83 $1.83 24,270
Q1A Mar-09 $28,925 11,219 23,061 419 63,624 15,135 6,075 17,090 419 38,719 6,868 5,153 7,013 (5,981) 13,053 0 (18) 13,071 5,446 7,625 7,625 $0.32 $0.32 23,953
Q2A Jun-09 $30,785 12,068 28,220 1,043 72,116 16,328 6,719 20,710 1,043 44,800 8,376 5,829 9,088 (5,360) 17,933 0 (21) 17,954 6,967 10,987 10,987 $0.45 $0.45 24,149
2009A Q3A Sep-09 $31,911 16,575 32,605 1,332 82,423 18,399 9,274 24,329 1,332 53,334 9,267 7,810 11,253 (5,602) 22,728 0 (55) 22,783 8,698 14,085 14,085 $0.58 $0.58 24,216
Q4A Dec-09 $31,582 14,617 45,145 1,494 92,838 16,021 8,047 33,147 1,494 58,709 6,253 6,374 17,413 (6,157) 23,883 0 (75) 23,958 9,323 14,635 14,635 $0.59 $0.59 24,847
YEAR Dec-09 $123,203 54,479 129,031 4,288 311,001 65,883 30,115 95,276 4,288 195,562 30,764 25,166 44,767 (23,100) 77,597 0 (169) 77,766 30,434 47,332 47,332 $1.92 $1.92 24,600
Q1E Mar-10 $21,115 13,912 38,546 1,250 74,823 9,502 7,651 28,601 1,250 47,004 633 6,399 11,949 (6,750) 12,232 0 (50) 12,282 4,618 7,664 7,664 $0.31 $0.31 25,000
Q2E Jun-10 $24,936 14,240 40,647 1,250 81,073 11,720 8,046 29,916 1,250 50,932 4,987 6,835 13,414 (7,000) 18,236 0 (50) 18,286 6,876 11,411 11,411 $0.45 $0.45 25,100
2010E Q3E Sep-10 $27,124 19,393 46,916 1,250 94,683 15,190 10,957 35,093 1,250 62,490 5,967 9,115 16,421 (6,750) 24,753 0 (50) 24,803 9,326 15,477 15,477 $0.61 $0.61 25,200
Q4E Dec-10 $28,424 17,833 61,278 1,250 108,785 14,496 9,273 44,978 1,250 69,997 3,979 7,757 23,653 (6,750) 28,640 0 (50) 28,690 10,787 17,903 17,903 $0.70 $0.70 25,600
YEAR Dec-10 $101,599 65,377 187,388 5,000 359,364 50,907 35,927 138,589 5,000 230,424 15,567 30,106 65,437 (27,250) 83,861 0 (200) 84,061 31,607 52,454 52,454 $2.09 $2.09 25,100
2011E YEAR Dec-11 $91,439 78,453 233,798 6,000 409,690 46,634 43,306 173,244 6,000 269,184 14,082 36,167 81,595 (33,000) 98,844 0 (200) 99,044 37,240 61,803 61,803 $2.42 $2.42 25,500
(1) 4Q05 results exclude $0.06 per share charge for proposed lawsuit settlement; 2Q06 results exclude $0.05 settlement charge.
Margin Analysis % Total Sales Wholesale - US Wholesale - International Consumer Direct Gross Margins Wholesale - US Wholesale - International Consumer Direct Total Gross Profit Operating Income Wholesale - US Wholesale - International Consumer Direct Total Operating Income Pre-Tax Tax Rate Net Income
Source: Company reports, Brean Murray & Co. estimates
56.9% 14.7% 27.9% 51.3% 48.1% 76.6% 58.1% 31.0% 41.8% 36.9% 25.5% 25.9% 36.6% 16.4%
45.5% 17.6% 36.2% 52.3% 54.1% 74.1% 60.9% 23.7% 45.9% 30.4% 20.5% 20.5% 41.7% 12.0%
42.7% 16.7% 39.1% 53.0% 55.7% 73.4% 62.1% 27.2% 48.3% 32.2% 24.9% 24.9% 38.8% 15.2%
38.7% 20.1% 39.6% 57.7% 56.0% 74.6% 64.7% 29.0% 47.1% 34.5% 27.6% 27.6% 38.2% 17.1%
34.0% 15.7% 48.6% 50.7% 55.1% 73.4% 63.2% 19.8% 43.6% 38.6% 25.7% 25.8% 38.9% 15.8%
39.6% 17.5% 41.5% 53.5% 55.3% 73.8% 62.9% 25.0% 46.2% 34.7% 25.0% 25.0% 39.1% 15.2%
28.2% 18.6% 51.5% 45.0% 55.0% 74.2% 62.8% 3.0% 46.0% 31.0% 16.3% 16.4% 37.6% 10.2%
30.8% 17.6% 50.1% 47.0% 56.5% 73.6% 62.8% 20.0% 48.0% 33.0% 22.5% 22.6% 37.6% 14.1%
28.6% 20.5% 49.6% 56.0% 56.5% 74.8% 66.0% 22.0% 47.0% 35.0% 26.1% 26.2% 37.6% 16.3%
26.1% 16.4% 56.3% 51.0% 52.0% 73.4% 64.3% 14.0% 43.5% 38.6% 26.3% 26.4% 37.6% 16.5%
28.3% 18.2% 52.1% 50.1% 55.0% 74.0% 64.1% 15.3% 46.1% 34.9% 23.3% 23.4% 37.6% 14.6%
22.3% 19.1% 57.1% 51.0% 55.2% 74.1% 65.7% 15.4% 46.1% 34.9% 24.1% 24.2% 37.6% 15.1%
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COMPANY UPDATE Important Disclosures
True Religion Apparel, Inc. (TRLG/NASDAQ)
Ratings and Target Price History
Brean Murray, Carret & Co. ratings for TRLG (TRUE RELIGION APPAREL INC) Closing Price Feb 24, 2010: $20.78
11/08/06 08/28/07 05/09/08 06/16/08 08/07/08 B:$21.26 B:$19 B:$19.51 B:$25.63 B:$26.72 T: $22 T: $24 T: $29 T: $30 T: $35
30 25 20 15 10 Apr
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Investars.com
B=Buy, T=Price Target Carry Over Reiterated Positive
New rating scale: Sep 18, 2006: Buy, Hold, Sell, Not Rated
All prices are as of the market close on 2/24/2010. At the time this report was published, Brean Murray, Carret & Co., LLC made a market in the securities of True Religion Apparel, Inc. In the normal course of its business, Brean Murray, Carret & Co., LLC does and intends to seek compensation for investment banking and/or non-investment banking services from the companies in its coverage universe. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decisions. Non-U.S. research analysts that may have contributed to this report are not registered/qualified as research analysts with the FINRA. The research analyst(s) or research associate(s) principally responsible for the preparation of this research report has received compensation based upon various factors, including quality of research, investor client feedback, stock picking, competitive factors and firm revenues. The compensation is determined exclusively by research management and senior management (not including investment banking).
Brean Murray, Carret & Co. Stock Rating System
Buy - Expected to appreciate by at least 10% within the next 12 months. Hold - Fully valued, not expected to appreciate or decline materially within the next 12 months. Sell - Expected to decline by at least 10% within the next 12 months.
Brean Murray, Carret & Co. Equity Research
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COMPANY UPDATE
# of Securities 128 52 6 3 189 % of Total Securities 67.72% 27.51% 3.17% 1.59%
True Religion Apparel, Inc. (TRLG/NASDAQ) # of IB-Related Securities in Past 12 mos. 16 0 0 0
BUY HOLD SELL NOT RATED TOTAL
% of Total Securities 12.5% 0% 0% 0%
Note : Stock price volatility may cause temporary non-alignment of some ratings with some target prices.
Valuation Methodology and Risks
True Religion Apparel, Inc. (TRLG): Our target price is $35, which is 14.5x our 2011 EPS estimate. Risks to the attainment of our target price include: (1) the company's customer base remains fashion-oriented; (2) True Religion competes with players that have greater financial resources; (3) the company has a high dependence on denim; (4) the company is in the midst of a major growth cycle; and (5) True Religion is expanding into new categories, and there is no guarantee of consumer acceptance.
Analyst Certification
We, Eric Beder and Jennifer Sung, hereby certify that the views expressed in this research report accurately reflect our personal views about any and all of the subject securities or issuers referred to in this document. The analyst and associate analyst further certify that they have not received and will not be receiving direct or indirect compensation in exchange for expressing the recommendation contained in this publication.
Disclaimers
Some companies that Brean Murray, Carret & Co., LLC follows are emerging growth companies whose securities typically involve a higher degree of risk and more volatility than the securities of more established companies. The securities discussed in Brean Murray, Carret & Co., LLC research reports may not be suitable for some investors. Investors must make their own determination as to the appropriateness of an investment in any securities referred to herein, based on their specific investment objectives, financial status and risk tolerance. This report may discuss numerous securities, some of which may not be qualified for sale in certain states and to certain categories of investors. Readers are advised that this analysis report is issued solely for informational purposes and is not to be construed as an offer to sell or the solicitation of an offer to buy. The information contained herein is based on sources which we believe to be reliable but is not guaranteed by us as being accurate and does not purport to be a complete statement or summary of the available data on the company, industry or security discussed in the report. Designated trademarks and brands are the property of their respective owners. Past performance is no guarantee of future results. Any opinions expressed herein are statements of our judgment as of the date of publication and are subject to change without notice. Entities including but not limited to the Firm, its officers, directors, employees, customers, affiliates may have a position, long or short, in the securities referred to herein, and/or other related securities, and from time to time may increase or decrease such position or take a contra position. The Firm (or persons related thereto) may make a market in the securities mentioned herein, and may from time to time perform investment banking or other services for, or solicit investment banking or other business from, and may have other relationships with any company mentioned in this report. Brean Murray, Carret & Co., LLC is a member of SIPC, FINRA, licensed with various state securities regulatory authorities, and a registered U.S. Broker-Dealer. No part of this report may be reproduced in any form without the express permission of Brean Murray, Carret & Co., LLC. Additional information is available upon request.
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