Men's Wearhouse (NYSE:TLRD) has drastically changed its value proposition for shareholders following its acquisition of Jos. A. Bank. The merger adds $1 billion in annual revenue to Men's Wearhouse's income statement -- a 40% increase. The revenue boost comes with a host of challenges, not least of which is cutting redundant staff and melding the two corporate cultures. There are just as many reasons to believe Men's Wearhouse's stock will rise as reasons it could fall. Ultimately, shareholders will get a good return as long as they don't pay more than the stock is worth. Let's see if Mr. Market is offering Men's Wearhouse stock at a bargain price.
Synergies from the Jos. A. Bank acquisition will have the biggest impact in determining whether Men's Wearhouse represents a good investment or not. The company expects to achieve $100 million to $150 million in annual cost savings after the acquisition is fully integrated. However, management has so far identified only $100 million in annual expenses that can be removed by the end of fiscal 2017. Even so, $100 million in cost savings would boost operating income by 43% in three years.
Since so much of the bull thesis rests on synergies coming through, before buying shares, investors must be confident that the cost cuts can be made. About $46 million will come out of G&A (general and administrative) expenses. It should be easy enough to consolidate accounting, legal, human resources, and other corporate-level departments. The $14 million in savings from e-commerce and advertising should also be straightforward cuts.
However, it may be tough to come up with another $40 million in savings from reducing cost of goods sold and consolidating stores. Centralized tailoring seems to be the only easy source of savings in those categories. It will be a challenge to take much more out of supplier and store costs, because the two companies have such different inventory. Men's Wearhouse is trendier, while Jos. A. Bank is more traditional. Investors could be forgiven for doubting that anything more than corporate costs can be eliminated.
Organic growth and margin management
Management is guiding toward 2% to 3% same-store sales growth through 2017. Also, the company plans to open 30 Men's Wearhouse stores per year through 2017 and 30 Jos. A. Bank stores in 2014. Given these inputs, management expects at least $3.7 billion in sales in fiscal 2017 -- a 4% annual growth rate if it comes in at the minimum.
That growth comes at a cost, however. The company plans to spend 5.5% to 6% of sales on advertising through 2017, up from a combined 5% of sales that the two companies spent on advertising in 2013. That will put pressure on the bottom line. If the companies cannot find synergies in cost of goods sold, performance may fall short of management's projections.
Is Men's Wearhouse a good buy?
Management says Men's Wearhouse will earn at least $250 million in 2017 if the company cuts $100 million in redundant costs. In 2013, Men's Wearhouse and Jos. A. Bank generated a combined $147 million in earnings, so management expects earnings to grow by 14% per year through 2017.
Men's Wearhouse could be a good buy if management can pull off that kind of growth. It seems clear that at least $60 million can be removed from the cost structure given the "easy" synergies outlined above. If the company can hit its 2% to 3% same-store sales growth target and expand its store base, it may hit its 2017 earnings target even if it falls short of its $100 million to $150 million synergies goal. This gives investors a margin of safety that may not be evident in its current stock price.
I tend to stay away from retailers because demand can be unpredictable, but investors who are willing to take a chance on a retailer would be hard-pressed to find a better risk-reward than that offered by Men's Wearhouse.
Ted Cooper has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.