Why Do Investors Discount YETI's Long-Term Prospects?

In the second segment of this Industry Focus: Consumer Goods podcast devoted to YETI Holdings (YETI -0.25%), host Vincent Shen and Fool.com contributor Asit Sharma run through recent events from the company's pre-IPO history.

Tune in to learn about YETI's stumbles in 2017, and how it recovered ground. While the cooler and drinkware manufacturer's growth is enticing, the two discuss why reasonable caution around shares is warranted going forward.

A full transcript follows the video.

This video was recorded on Nov. 27, 2018.

Vincent Shen: Something else that I think is worth mentioning in recent results. We talked about pretty solid growth in the first half of 2018. Revenue growth came in around 34% year over year. But there's a blip, also, in 2017 that I think really worried investors looking at the story, evaluating its long-term prospects. We saw the company putting up these incredible growth numbers, but at the same time, the revenue was down in 2017 for Yeti about 22% as a result of what the company describes as multiple factors coming together as headwinds. Can you tell us a little bit about that, Asit?

Asit Sharma: Sure. One of the first problems that hit the company was, it has been doing so well that many of its partners built up excess inventory. On top of that, there was a delayed merger between Bass Pro Shops and Cabela's, which didn't help. And, the negative retail trends, if you think back to just a year ago, we used to talk on the show in the 2016, 2017 timeframe about Amazon's effect on retail outlets. So, there was positioning there.

And then, there were lawsuits against some competitors who were essentially mimicking the Yeti product line. What happened for Yeti in terms of enforcement is, it was able to successfully sue some of its competitors. But, the courts ordered these competitors to liquidate inventory, so there was a fire sale on competing products, which hurt Yeti's own sales. In response to that, Yeti in its prospectus has listed a number of initiatives that it's undertaken to restabilize and regrow sales, including pricing actions. You can read that as discounting its own products. That's to make sure that they restimulate the demand. But they've said that they've done that without hurting their premium positioning. Focusing, as Vince mentioned, this DTC channel, especially the digital channels which are associated with that.

The company culled about 1,100 underperforming retailers to get to that 4,800 number that Vince told you about, in terms of retailers today. Cut out the inefficient ones who weren't that profitable for it. And, increased engagement with Dick's Sporting Goods, which is the country's largest sporting retailer.

A couple more I'll mention that were listed in the prospectus. Rationalizing the manufacturing base. That simply means they cut down on the number of manufacturers to get better production deals out of the ones that were remaining. Adding those executives we talked about, as well as more employees, including those that work on product developments. One of the things that's really characteristic about this company over the last year is, it's really ramping up the number of products it offers, especially in the drinkware and other categories. The other category includes T-shirts, hats, and even pet bowls.

Shen: I saw that in the prospectus, too. I mentioned this before, I think management does their best trying to explain for 2017 why, all of a sudden, this incredible growth trajectory really just flips like a switch and goes in the opposite direction. But for any young company that's going public, you're going to have a hard time building as much confidence in investors when your most recent full-year results show a double-digit revenue decline, net income down 69%. And, at the same time, some investors are already going to be feeling worried or concerned that the company's riding a wave of fad-like popularity, and there's no guarantee that it's going to have staying power being this top-of-the-line cooler and drinkware brand.

That was ultimately reflected in the initial public offering process itself. We haven't talked as much about this. Cortec first filed to take Yeti public back in 2016. After two years of sitting on the shelf, the deal was pulled earlier this year, only to be refiled. Eventually, they were able to price the deal in late October at $18 per share. That was below the range of $19-21. Following in that vein, the company's first day of trading was October 25th. Shares closed at $17, below the offering price. As of this recording, shares still haven't managed to clear that original $18 pricing level.

That weaker IPO performance, downtrading, it really does, I think, serve to reflect the concerns investors have about long-term growth and positioning for Yeti. Keep in mind that with this IPO, the deal size was $280 million, but Yeti itself only pocketed about $37 million of that, in terms of the proceeds. The remaining proceeds went to Cortec, which reduced its ownership from originally around 70% to about 55%. I found a source that Cortec acquired its initial stake back in 2012 for $67 million. At the IPO valuation, that $67 million investment became $1 billion of holdings. A pretty solid return for Cortec in six years' time.