We are adding dELiA*s, Inc. to our ValueHuntr Portfolio. DLIA is a company selling for $58M, with 67% of its current assets in the form of cash or cash equivalents. The company’s net current asset value of $47M represents nearly 87% of the total shareholder equity, and it is significantly below our intrinsic value estimate of 115M.
On November 5, 2008, the DLIA completed the sale of its CCS business to Foot Locker. The company received aggregate cash consideration of $103.2 million for the sale of the CCS assets and assumption of certain related liabilities. This transaction significantly strengthened the DLIA’s balance sheet and recapitalized the company at a time when financial flexibility and liquidity is important.
The use of the sale proceeds has not been fully determined, but given the success of recent Delia’s store openings, we expect management to take advantage of retail opportunities within its core Delia’s brand and reduce general administrative expenses.
dELiA*s is a direct marketing and retail company comprised of two lifestyle brands - dELiA*s and Alloy - primarily targeting the approximately 33 million girls and young women that, according to published estimates, are between the ages of 12 and 19, a demographic that is among the fastest growing in the United States. The dELiA*s brand is a collection of apparel, sleepwear, swimwear, roomwear, footwear, outerwear and other accessories. The company currently operates 97 stores across the US, including 13 opened in 2008.
Value of Assets
At yesterday’s closing price of $1.87, the company’s working capital represented nearly 50% of the total shareholder equity. Moreover, the company’s net current asset value of $47M represents 87% of the total market price.
We estimate the company’s assets are valued at $115M, or $3.70/share, with cash representing nearly 45% of the company’s total assets.
The $103M in pre-tax earnings received from the sale of CCS assets increased the company’s equity by 18%, greatly enhancing shareholder value.
Value of Earnings
The P/E ratio of 4 analysts assign to the company is misleading, as it is clear that DLIA’s profitability in 2008 was masked by extraordinary income that would otherwise have caused the company to report a loss as in previous years.
The company was profitable in 2008 only due to the cash received from the discontinued operations of its CCS assets. If this sale is excluded, the company would have recorded a loss of nearly $13M, which is consistent with historical income results. Weinclude the cash received from this sale in our asset valuation, as equity is greatly improved due to the increase in current assets. However, we exclude the profit received from these discontinued operations in our earnings valuation.
In the 10K filed on April 16, 2009, DLIA reported a revenue growth of 7% (including both direct marketing and retail businesses) and an average same store sale growth of 2.8%, even in the challenging economic environment. However, expenses grew by 11%. The direct marketing business accounted for 102M in revenues in 2008, or 47%, while retail accounted for 53% of total revenues.
On average, DLIA has achieved an 8% annualized growth in revenues. However, these higher revenues have been offset by an average annual expense growth of 11%.
SG&A expenses have historically ranged from 61% to 66% of total sales. The company’s COGS have ranged from 42% to 45% of total sales. Our analysis indicates that the company would need to reduce general administrative expenses to 60% of total sales and COGS to 38% of total sales before the company becomes profitable. This means that the company’s management would need to significantly reduce its variable costs before we put a value on its earnings.
We think that DLIA is a case where the sum of its parts is significantly greater than the current value the market is placing on the company. Our analysis indicates that the company could become profitable by reducing its SG&A expenses to 38% of sales and its COGS to 60% of sales over the years. Obviously this estimate is assuming that expenses continue to climb at a similar rate they have historically relative to total sales. We believe this is a conservative estimate, as revenues have the potential to increase at a faster rate after the recession ends and consumers return to their old shopping habits. But because the company is not currently profitable, we rather not take the potential of future earnings into account in our intrinsic value estimate.
We believe the company’s assets are worth at least $115M, or $3.70/share, which is more than double the current market price of $58M, or $1.87/share, and this is placing no premium on the prospects of future earnings and assuming all warrants are exercised.
Disclosure: The ValueHuntr portfolio does not represent an actual portfolio, and it is tracked for informational and educational purposes only. We do not have an actual holding in DLIA. This is not a recommendation to either buy or sell any securities.