Monday's third-quarter earnings report from Retail Ventures
For the quarter, total sales and comparable same-store sales both marked positive increases, 5.6% and 2.3%, respectively, over Q3 2005. Of the company's three operating segments -- DSW
Unfortunately, those warrants are a painful reminder of the expensive financing options that management has used in recent years to nurse the company through tough times. It's common for a company to raise debt with equity features to help lower what would otherwise be high interest payments caused by poor debt ratings, but these hybrid debt solutions are often more costly than just issuing straight debt. And even if investors and management ignore the derivative instruments' effect on the income statement, the share dilution those warrants creates is impossible to ignore. They currently convert at $4.50, and the current share price lies just below $18.
By issuing debt with equity features, management has created, as of the most recent quarterly filing, more than 14 million in dilutive shares, excluding standard employee stock options. This, along with the stock options, creates a total stock overhang amounting to roughly 35% of the outstanding share count. And the share count has already grown 19% in 12 months. It is disappointing that Retail Ventures' largest shareholder, Schottenstein Stores, which owns more than 50% of the company, is one of the financiers profiting by providing this expensive capital.
I recognize that providing financing to Retail Ventures, which has a history of losing money, is a risky bet, but at what point does the board of directors determine that this kind of financing is just not worth the extra cost to existing shareholders? It's bad enough that the company had to auction off its most profitable operating segment, DSW, to the public to raise additional funds.
The bottom line is that even if Retail Ventures can return to some level of profitability, the share dilution is unacceptable for this long-term investor. If one were to focus on Jay Schottenstein's major holdings, I would lean toward DSW or a personal holding, American Eagle Outfitters
For related retail Foolishness:
Fool contributor Matthew Crews welcomes your feedback -- really! He has a financial position in American Eagle Outfitters, but no position in any of the other companies mentioned. The Motley Fool has an ironclad disclosure policy.