Michaels Companies Fails to Craft Enthusiasm for IPO

Source: Wikimedia Commons.

Maybe arts and crafts just doesn't lend itself to investor enthusiasm: Michaels (NASDAQ: MIK  ) went public on Friday with shares priced at $17, the low end of the expected range, and the stock only gained $0.02 in its first day of trading in a lackluster reintroduction to the markets. Yesterday wasn't much better.

Compare this to action-camera maker GoPro, which also IPO'd last week and soared 32% on its first day of trading. Michaels' subdued offering might have more to do with its private equity owners taking on debt seemingly just to pay themselves a hefty dividend than with anything particularly negative about the company itself. The stock actually traded as low as $16.66 before barely closing up on the day.

Hedge fund operators Bain Capital and Blackstone Group took the retailer private in 2007, then, after the original public offering was delayed due to its then-CEO having a stroke and subsequently leaving the company, they prepped for the IPO last year by issuing $700 million in new debt and paying a dividend.

The PE firms did not sell any of their shares in Friday's debut, and they'll continue to own 80% of the outstanding stock. As of May 3, Michaels had about $3.7 billion worth of debt and will use a portion of the $472 million it raised last week ($540 million if the underwriters use their options) to buy additional shares.

According to Fortune, however, Michaels' private owners still did well. They put in about $1 billion in equity and used leveraged financing of $4.8 billion when they took the company private for $5.8 billion seven years ago. With the IPO valuing the stock at $3.45 billion, the investment firms' stake stands at about $2.77 billion, or a nice near-tripling on their investment.

Yet the future prospects for the arts-and-crafts leader are mixed. It's the biggest player in the market, with 1,263 Michaels stores and 118 Aaron Brothers stores putting it well ahead of nearest rivals Hobby Lobby, Jo-Ann Fabric and Craft Stores, and A.C. Moore. CEO Chuck Rubin said Michaels' growth has been ahead of the industry's low-single-digit rate, meaning it's been taking market share. Yet those kinds of numbers fail to spark any enthusiasm for investors, who are more likely to look for stocks that have the potential for strong growth.

Although slow and steady can win the race, the competitive landscape remains tight beyond just the traditional arts-and-crafts players. Wal-Mart, for example, sells many of the same supplies Michaels does (in a much smaller space) and has thousands of arts and crafts SKUs. Rubin might dismiss the threat posed by the Internet retailer, saying the $3 average price of a Michaels item means "showrooming" isn't much of a concern, but it's noteworthy that Michaels upgraded its own website just this year to allow customers to actually buy things online. Until it gave the site that functionality, it was just a place to look at what the retailer might offer. With 1.8 million Facebook followers, more than 395,000 Pinterest followers, and over 134,000 Twitter followers, Michaels has been missing out on a big Web-based opportunity.

Source: Rainbow Loom. 

In addition, the near-3% revenue growth it achieved last year was almost wholly the result of one product: Rainbow Loom and its replacement rubber bands. That means it must identify whether the product has any staying power (not likely) -- or risk getting stuck with lots of unwanted inventory -- and then identify what the next hot product will be. 

If Michaels will be relying on one-hit-wonder items, the growth story seems extremely limited and explains why investors couldn't craft a more enthusiastic response to its debut.

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  • Report this Comment On July 11, 2014, at 8:41 AM, HumbleJeff wrote:

    Nice article but failed to go beyond public poop on Michaels stores. As a father of 2 girls I can tell you thatmy wife is in Michaels on average of twice a month to complete projects in our home base of Portland, Oregon. As you know Portland is full of little hip stores selling hipper items then Michaels but still PDX can support 3-4 Michael's stores. This tells me that in the rest of the country especially the middle of the country including Texas, where culture only exists in dreams, these Michaels stores will do well over time. It seems to me with the volatility of Common stocks and all the talk of busts in IT, Utilities and almost every industry a real down home-wholesome industry is just what us investors need over thenext few years. No fads, nothing new just crafts and great gift making materials for Dads and Moms from their children. Go spend 30 minutes in a store, p up a photo frame for your partner and then tell me what you think.

    us investors need over the next few years.

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Rich Duprey

Rich has been a Fool since 1998 and writing for the site since 2004. After 20 years of patrolling the mean streets of suburbia, he hung up his badge and gun to take up a pen full time.

Having made the streets safe for Truth, Justice and Krispy Kreme donuts, he now patrols the markets looking for companies he can lock up as long-term holdings in a portfolio. So follow me on Facebook and Twitter for the most important industry news in retail and consumer products and other great stories.


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