Searching for Value in a Beaten-Down Industry

When an industry has seen as large a pullback as retail apparel has, that's likely to attract private equity investors who are interested in buying up distressed companies.

Jul 15, 2014 at 9:00PM

The latest gossip in the beaten-up apparel retail space has Express Inc. (NYSE:EXPR) potentially going private. This is big news for an industry that has been hit hard by changing fashion trends and high teen unemployment.

Express has been just one of many underperforming apparel retailers. The stock was down 32% for the first five months of the year, but then jumped 20% in a single day back in June on the news that private equity company Sycamore Partners had taken a 9.9% stake in the company. Sycamore has shown interest in taking the retailer private.

An Express buyout
The brokerage firm Stifel Nicolaus has said the final price of an Express buyout could be between $20.50 and $24.50. That still offers over 20% upside from current levels. Stifel also believes that there is a 50% chance the deal will go through.

Express has been getting rid of unsold inventory and leaning more on factory stores, yet analysts still expect its sales and profits to decline for the next two quarters. In its most recent quarterly announcement, the company slashed its annual earnings forecast from $1.23 per share to $0.90 per share.

It's worth noting that Sycamore is no stranger to the struggling apparel industry. It recently bought up a stake in teen retailer Aeropostale. Last year it bought Hot Topic for $533 million and was in negotiations to buy Billabong International.

Another private equity buyout?
Chico's FAS (NYSE:CHS) gained $280 million in value after a report by the Financial Times said that the women's clothing retailer was considering a buyout led by private equity.

Hypothetically, if the company demands a 30% premium on its current market cap of $2.36 billion, its value would be $3.06 billion ($20 per share). According to experts, the company's strong cash flows and growth prospects for brands like Soma lingerie and White House Black Market make it a strong candidate for a private equity buyout.

Chico's CEO David Dyer was previously involved in the sale of Tommy Hilfiger, so management has some experience with buyouts. One of Express' big problems is that it has been unable to meet its earnings estimates for the last six quarters. During the first quarter of 2014, its revenue rose by 1.6%, but earnings fell by 26% to $39 million ($0.26 per share).

A potential buyout in coastal apparel
Quiksilver (NYSE:ZQK) has been one of the hardest-hit apparel companies. Its stock dropped over 42% in a single day after it reported a loss of $0.15 per share for the quarter, when a loss of $0.02 per share had been forecast. Its sales of $408.2 million came in below analysts' consensus estimate of $449 million and the company does not expect improvement anytime soon.

Monness, Crespi, Hardt recently downgraded the stock because the wholesale channel is proving to be more difficult to negotiate than previously expected. However, Citigroup has speculated on whether VF Corp will acquire Quiksilver because its acquisition of Timberland has now been fully integrated. VF is also currently seeking new acquisition opportunities.

After VF's bid for Billabong did not work out, Quiksilver might be a likely prospect because it has a strong brand for girls and women called Roxy. Citi believes that Quiksilver could have a value of between $900 million and $1 billion, which is above its current market capitalization of $623 million.

Bottom line
With some major hedge funds getting involved in apparel retail over the last few months, the space appears to have some deep value opportunities for risk-tolerant investors. However, some companies are closer to a deal than others are. Certain companies are in better financial shape as well. Of the companies above, Express looks the best positioned and it's worth a closer look.

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Marshall Hargrave owns shares of Citigroup. The Motley Fool owns shares of Citigroup. 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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