Wednesday, September 24, 1997

Party City Corp.
(Nasdaq: PCTY)
Phone: 973-983-0888
Price (9/23/97): $27 1/2

HOW DID IT DOUBLE?

This party is hopping. Since May it's been all party hats and confetti as Party City Corp. stock has celebrated some heavy gains.

With timely analyst coverage and surging sales, it has been a non-stop celebration for this party supplies retailer. It's Party City and it'll double if it wants to. You would double, too, if this happened to you.

BUSINESS DESCRIPTION

New Jersey's Party City is the largest specialty retailer of party supplies in the U.S., with 57 company-owned and 167 franchised party goods superstores. Each store stocks more than 20,000 festive products.

Sales have always been seasonal, with a keynote fourth quarter thanks mostly to Halloween costume sales. Yet one can't fault the company for trying to smooth out the results over the rest of the year. It is discounting Halloween outfits 20-25% if bought by September 27, which just happens to be right near the end of the third quarter.

FINANCIAL FACTS

Income Statement
12-month sales: $71.3 million
12-month income: $4 million
12-month EPS: $0.59
Profit Margin: 5.6%
Market Cap: $220 million

Balance Sheet
Cash: $13.7 million
Current Assets: $34.8 million
Current Liabilities: $12.2 million
Long-term Debt: $2.3 million

Ratios
Price-to-earnings: 46.6
Price-to-sales: 3.1

HOW COULD YOU HAVE FOUND THIS DOUBLE?

Did you get invited to this party? Those who followed the sage advice from Jefferies & Company may have RSVP'd just in time. With the stock at $13 3/8 on May 28 the firm began coverage of Party City with an "accumulate" rating.

The analyst noted that the company was in a fragmented industry ripe for consolidation. In an industry dominated by mom and pop operators, Party City emerged with a category killer concept and the capital to roll-out its supersized expansion plans.

So the company has been on a buying spree, aided not only by last year's initial public offering but also by the cash received from a secondary issue earlier this year. But rather than buying up faltering competitors, the company has been opening new stores and buying back its own franchisees.

This has lead to strong top-line growth and interested investors have been crashing the party ever since.

WHERE TO FROM HERE?

Moving away from franchise-based collections to company-owned store revenues has found sales outpacing earnings growth. This is natural since collecting franchise royalties incurs little overhead while opening and running the actual stores obviously does.

So, while the margins have contracted, it is not necessarily a sign that the company is becoming inefficient or letting pre-opening expenses get out hand. Especially when the bottom-line growth is still stellar. Last quarter sales shot up 171% while earnings rose 80%. Again, margin contraction, but that should stabilize as the company depends less on franchise revenue year-over-year.

Back in March almost half of the shares sold in the secondary offering were from insiders cashing out. The stock had appreciated significantly since its $10 IPO the year before and splurging for personal party favors was not necessarily out of line.

But now the stock is not only well above the insider's exit price, but also way past the $20 Jefferies target. How long can the party keep going and will short-selling neighbors succeed in bringing the noise level down?

Maybe not. Earnings estimates have risen recently and the few analysts following the company are now looking at $0.88 per share this year and $1.24 per share next year. For a company expected to grow earnings at a 35% annual clip, selling at a little more than 20 times next year's projections is not outlandish.

This is no masquerade party -- the company has outperformed expectations before. Same-store sales are up 13% so far this year. While sober skeptics are quick to point out how now-fallen superstore concepts like Baby Superstore and Just for Feet have faltered after similar growth, these companies also commanded much loftier valuations at their peak than Party City is presently.

So, watch the trend with a jaded eye, but don't let it keep you from tossing some confetti skyward.

- Rick Aristotle Munarriz, tmfedible@aol.com

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