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Over 11 million pairs of board shorts. That's what Billabong shareholders could buy if the offer made by VF (NYSE: VFC ) goes through. Yesterday the brand conglomerate announced a $556 million offer for the Australian surf-style company, matching an offer made in December by Billabong's American president of operations, Paul Naude, and Sycamore Partners Management. The competing offers aren't the first interest that outsiders have shown in the company. Last year, two other offers were put in before the bidders were reportedly scared off after reviewing Billabong's books -- ouch.
So should VF investors be stoked about the big wave coming their way, or is it quickly going to turn into that crazy picture with the guy surfing while being chased by a shark? Here's what Billabong's had going on recently, and why VF is even interested in the first place.
The horror that is Billabong
Running with the surfing analogy, the reason that companies are interested in Billabong is in part that they can smell blood in the water. Billabong has started losing money, after a successful and profitable run starting in 2001. Recent reports have shown losses at every operational level, from retail rental agreements down to clothes on the rack. As a result, last year Billabong saw retail losses in all its geographic regions, with the fall coming just one year after a solid performance in those same regions.
In its last annual report conference call, Billabong focused on moving away from the failures of the past two years, which is not surprising. Billabong's solution to the problem is to cut back its operational costs by shutting down stores. Management is confident that the brand has enough strength to continue on in the wholesale and retail space, and that the gap in the market is big enough for the company to keep growing over time.
Why VF is interested in Billabong
Calling Billabong's view of itself optimistic is a dramatic understatement. Just looking at short-term bonuses paid out over the past few years, it's clear that the company is not meeting its internal targets -- as an example, this year management got a big fat $0 in short-term investment bonuses. So why would VF be even vaguely interested in the train wreck that is Billabong? The answer is part brand and part product segment.
Billabong's management team wasn't wrong to say that it had a strong brand. Its problem is that it doesn't seem to have the operational capability to bring that brand to market without losing cash. Luckily, bringing a strong brand to the masses is something that VF excels at. In 2000, VF acquired The North Face brand, which made $218 million in revenue in its first full year. VF has grown that business so well that it now has a goal of $3.5 billion of revenue from North Face by 2015.
Billabong also gives VF a competitive edge that it has been lacking. While VF operates the surf-themed Reef brand, it doesn't have an edgy, board-sport brand like Billabong. If it could pick up Billabong, it could use its existing distribution and marketing enterprise to drastically cut costs, potentially making Billabong an excellent addition to VF's arsenal.
The expansion would give VF a welcome breath of fresh air, as it's currently beset on all sides by strong and growing brands. For instance, its Lucy women's fitness line is coming under increasing pressure from lululemon athletica. Lululemon in particular has been growing sales and gaining market share at a rate that the Lucy line simply hasn't been able to keep up with. While Lucy was touted at the end of 2011 as preparing for a stellar 2012, the brand has been all but absent from the most recent reports.
What it means for investors
VF investors should be happy with this interest. While the offering price is well above Billabong's market cap, it's still well below what the company was worth just a few years ago. That decline in company value is largely driven by the decline in operational efficiency, Billabong still has a strong and recognizable brand. If VF gets a chance to see Billabong's books -- which has been the sticking point for other offers -- investors should be hoping for a positive outcome.
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