L Brands (LB +4.21%), owner of Victoria's Secret, has seen its stock gain 39% so far this year on speculation that the company will sell the embattled lingerie brand. The stock's volatility soared late last month and is still on the rise. Usually, the higher the volatility, the riskier the stock.
But some see opportunity to play a recovery story, since L Brands stock is down about 75% from its peak in 2015, and revenue at its bath products business, Bath & Body Works, has been growing.
Image source: Getty Images.
What's happening
CNBC reported on Sunday that L Brands is close to selling Victoria's Secret to private equity firm Sycamore Partners. Reports have left unanswered what might happen to CEO Les Wexner, who has been criticized for the performance of Victoria's Secret as well as his ties to the late Jeffrey Epstein, a former trustee of The Wexner Foundation who was facing charges of sex trafficking. (Wexner has condemned Epstein's actions.)
So is L Brands a risky stock at the moment? Would the stock be risky if Victoria's Secret were sold? The short answer to both questions is "yes." Now for the longer answer.
Right now, with Victoria's Secret weighing down results, L Brands shares clearly represent a risk for investors. In the third quarter, the lingerie brand saw a 7% decline in same-store sales and a 6% decrease in digital sales.
The situation didn't improve over the holidays, a crucial period for retailers. L Brands' comps fell 3% over the nine weeks ended Jan. 5, and the company lowered its guidance for fourth-quarter earnings per share to $1.85 from $2. Though L Brands sees the need to "evolve the marketing of Victoria's Secret," according to CFO Stuart Burgdoerfer in the third-quarter earnings call, it's unclear how that might be done or if the effort would work. The brand's glamorous image, which speaks less to today's comfort-loving shopper, may be hard to shed.
A brighter picture?
Would the picture look better without Victoria's Secret? The initial answer seems to be "yes," with Bath & Body Works offering a much brighter earnings picture. Victoria's Secret chipped in about 53% of total sales in the most recent quarter while Bath & Body Works contributed about 40%.
In the third quarter, Bath & Body Works sales climbed 11% to $1.06 billion, and same-store sales increased 9%. That's after an 11% gain in comps for the 2018 full year.
But while things are looking good for Bath & Body Works at the moment, challenges may be on the horizon. Its shops are in malls, where foot traffic has declined progressively over the years. The vacancy rate for regional malls rose to 9.7% in the fourth quarter of 2019, the highest since at least 2014, according to research firm Reis. This, as well as the rise of e-commerce, may represent headwinds for Bath & Body Works.
What makes L Brands risky right now
All of this means L Brands faces challenges -- with or without Victoria's Secret, with or without Wexner. Investors seeking to gain on a recovery story who buy now may be jumping in before the picture is clear. Those who decide to minimize risk and come in later may lose out on a big gain.
What makes L Brands risky right now is the lack of visibility regarding the company's plan. If it keeps Victoria's Secret, how will it reshape the brand's image to suit today's buyer? If Victoria's Secret is sold, how can the company maintain (or even exceed) Bath & Body Works' current sales growth?
L Brands' shares are trading at their highest price in relation to earnings since 2018, and the current share price is 9.4% higher than Wall Street's price target. This might not intimidate an investor with a high tolerance for risk, but for a long-term investor seeking steady gains, the best tactic may be to watch and wait.
