Is This Shoemaker Selling Shareholders Short?

Iconic shoemaker K-Swiss  (NASDAQ: KSWS  )  received a takeover bid in mid-January after the company failed to achieve profitability since 2008 and was seemingly dwindling out of existence. The proposed buyer is South Korean retail firm E.Land, which offered $4.75 per share, valuing the company at $170 million. As is happening more and more often these days, shareholders were quick to dispute, with activist shareholders alleging the company is worth north of the offer price, even though it was a 50% premium to the then-price. Now, lawsuits are in motion and analysts are number-crunching, trying to figure out if the beleaguered sneaker maker is indeed undervalued at $4.75 per share. Using some fundamental analysis and comps, let's see if we can determine a value for K-Swiss.

Deep(est) value
During the recession, revenue predictably crashed for a premium-branded shoe and sports apparel company. But falling sales alone were not the only factor to bury the company. It turns out another major factor, as pointed out in a Fool blog post, was skyrocketing SG&A costs. In its most recent year, SG&A accounted for 48.4% of sales. The year before, it was 57.3%.

In 2012, numbers crashed across the board. In the fourth quarter alone, the company posted a net loss of more than $14 million, or $0.41 per share. This was favorable to the prior year's quarter, in which the company lost $0.71 per share. Worldwide revenue dipped nearly 18%, while domestic revenue was down 31.4%.

For the year, the company posted a net loss of $34.8 million, or $0.91 per share. That represents nearly 20% of the company's market value today. Overall, the U.S. was the biggest drag on performance, crashing 35% in revenue compared with just 3% internationally on an annual basis.

The one bright spot for the company was future orders, which ticked up 1.3% compared with the year-ago for shipments taking place between January and June of this year.

Given the dismal income statements over the past few years (which, at this point, we can infer is likely due to general mismanagement, as the brand itself is quite valuable and should be a profitable platform), the appeal of the company must lie in its balance sheet and, of course, its brand. Sure enough, for all of its misgivings, K-Swiss does have a strong-looking balance sheet. The company has $141 million in cash and just $1.3 million in current and long-term debt. Inventory is high at nearly $70 million in the latest quarter, but it has ticked down from higher levels in previous years.

Using $170 million as our valuation, how does K-Swiss compare with its competitors?

Comps
Given that the company is bleeding money, and with no guidance to suggest a return to profitability in coming quarters or years, it's hard to use some traditional valuation metrics, but let's get a little creative.

Let's look at -- assuming different or reformed management that could allow K-Swiss' SG&A costs to get in line with competitors' -- potential bottom-line numbers. In its most recent reported quarter, Nike (NYSE: NKE  ) had SG&A costs that were 31% of total revenue. At that level, K-Swiss would generate a profit before interest, tax, and depreciation of 3.6% of revenues, or $8,022,636. If you take cash and short-terms out of the market value of the company, the operating business is valued at just $29 million -- less than four times the above earnings number. Nike currently trades at an EV/EBITDA of 13.53.

The company sells its shoes at a higher price internationally and has the ability to turn around its decreasing sales numbers with more effective marketing. Even a modest increase in sales coupled with a dramatic decrease in SG&A costs would imply that E.Land is, in fact, getting a heck of a bargain deal for K-Swiss.

Of course, Nike is a well-run company with many lines beyond footwear and basic apparel. It has an unparalleled brand around the world and is widely considered the No. 1 name in sports apparel. K-Swiss is more of a niche player and may not ever justify the multiples that Nike does, but even a modest correction would put the value of the company far above the $4.75 offer price.

One Fool's opinion
I believe shareholders may not be getting a great deal with this acquisition, which was unanimously approved by the board. K-Swiss needs a Superman/activist to swoop in, accumulate a 10%-plus stake, throw out management, appoint new directors, and maybe shop the company to a better buyer or just improve it internally. Will any of that happen? Well, there are activists involved currently, but right now the battle is to prevent the sale to E.Land at $4.75. Investors may want to wait until a clearer catalyst is identified before they buy this deep value play.

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