Hanesbrands, Under Armour, and VF Corp.: 3 Apparel Companies to Watch

Peter Lynch said "invest in you what you know." These three companies may fit the bill for that mantra.

Mar 8, 2014 at 9:00AM

Legendary investor Peter Lynch once said to "invest in you what you know." Many people may relate to apparel companies such as Hanesbrands (NYSE:HBI), Under Armour (NYSE:UA), and VF Corp. (NYSE:VFC), which sell apparel under iconic, well-known names. However, Lynch also said, "Investing without research is like playing stud poker and never looking at the cards." It's important to look under the proverbial hood to check out a company's financials to determine a company's investment-worthiness.

Apparel sub rosa
Hanesbrands sells underwear, socks, T-shirts, and activewear under iconic brand names such as Champion, Playtex, Maidenform, and, of course, Hanes.  Last year, the company only expanded reported revenue by 2%. However, the company is focusing on cost control and new products under its "Innovate-to-Elevate" program. Its gross, operating, and net income grew 14%, 17%, and 101%, respectively, during 2013. Moreover, Hanesbrands' free cash flow expanded 8% last year.

HanesBrands' balance sheet can stand some improvement. Its cash and long-term debt-to-equity ratio stand at 9% and 119%, respectively. Investor greats like Warren Buffett prefer companies without lots of debt. Hanesbrands paid out 11% of its free cash flow in dividends last year. Currently the company pays its shareholders $1.20 per share per year, translating into a yield of 1.6%.

Performance apparel
Under Armour sells performance apparel, footwear, and accessories. At first glance, Under Armour performed spectacularly in 2013, with revenue and net income growing 27% and 26%, respectively. However, operating and net profit margins declined slightly due to increased incentive compensation associated with its nominal growth success.

In addition, free cash flow declined 78% due to increased capital expenditures and inventory. Increased capital expenditures can represent a good thing for a company as it invests in new products and more efficient distribution. However, an investor needs to keep an eye on bloated inventory. If it becomes a trend over a period of time, then the company may have lost the ability to sell trendy merchandise.

More than 15 years of consecutive growth have resulted in a pristine balance sheet for Under Armour, with cash and long-term debt to equity consisting of 33% and 5%, respectively. Under Armour pays no dividend, as it's still in a growth phase and it probably wants to reinvest cash back into the business.

Apparel conglomerate
VF Corp. sells apparel products under names such as The North Face, Nautica, Lee, and Timberland. The company's strength lies in sports-oriented product lines. VF reports in six operating segments, and last year only three of those segments reported growth in revenue, including outdoor & action sports and sportswear, which expanded 9% and 8%, respectively. The other segment that expanded, jeanswear, only increased revenue 1% in 2013. These three segments propelled an overall revenue and net income expansion of 5% and 11%, respectively, last year.

Incredibly, VF's free cash flow expanded 11% despite an increase in capital expenditures. On its balance sheet, cash and long-term debt-to-equity clocked in at 13% and 24%, respectively. Last year, VF paid out a modest 34% of its free cash flow in dividends. Currently, the company pays its shareholders $1.05 per share per year, and yields 1.8%.

What should you watch for?
Investors should keep an eye on margins at Hanesbrands as the company continues to focus on cost controls and product innovation through its Innovate-to-Elevate initiative. Also, the company expressed a desire to acquire more companies that could possibly expand debt and result in shareholder dilution. Investors would be wise to stay away if further balance sheet degradation occurs.

Top-line growth should continue at Under Armour, fueled by powerful marketing partners such as the NFL and the NBA. However, investors should watch its bloating inventory. If slow inventory becomes an issue over the long term, it could harm profitability and serve as an indicator of waning popularity for the company and translate into permanently lower stock prices.

Finally, sports and superior financial management should serve as catalysts for superior capital gains for the shareholders of VF as well. Feel free to add these companies to your Motley Fool Watch List.

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William Bias has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Under Armour. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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