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<DAILY TROUBLE>
Tuesday, December 15, 1998
The Finish Line
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Phone: 317-899-1022
Website: www.thefinishline.com
Price (12/14/98): $7 3/8
HOW DID IT FIND TROUBLE?
The Finish Line is finished, or so it would seem from the way its stock has collapsed at the tape. Fickle fashion, a promotional retailing environment, warm weather, and the NBA lockout have conspired to trip up this leading mall-based retailer of athletic shoes and apparel.
While the overall athletic shoe market has been lame for the last two years as customers step out in "brown" shoes rather than Nike's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NKE)") else Response.Write("(NYSE: NKE)") end if %> sporty Air Jordans, there have been repeated signs of a turnaround. Finish Line's stock price more than doubled earlier this year to a June high above $31 on solid same-store sales growth.
But massive back-to-school discounting by competitors such as recent Trouble Venator Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: Z)") else Response.Write("(NYSE: Z)") end if %> left Finish Line in a bind. Apparel sales also weakened as customers flocked to the Gap's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GPS)") else Response.Write("(NYSE: GPS)") end if %> casual basics and avoided sports-related attire.
Despite a 22% overall revenue jump, same-store sales were flat in Q2. With higher occupancy costs, the Finish Line's profit line suffered. EPS came in at $0.30 versus $0.34 a year ago, marking the first year-over-year earnings decline in four years.
Preliminary Q3 results reported on December 2 proved even rockier. While sales rose 14% to $110 million, same-store sales sank 5%, with the decline accelerating to 9% during November. Sales of apparel and accessories remain the main culprit, dropping 15% on a same-store basis. Footwear sales were actually flat overall, though they also declined by 6% in October and 3% in November. The company now expects Q3 earnings to come in between $0.02 and $0.04 per share, well below the $0.14 reported last year.
Analysts who upgraded the stock earlier in the year have spent the last few months dropping their estimates. The stock has followed as investors have run for the exits.
BUSINESS DESCRIPTION
The Finish Line is a specialty retailer of brand name athletic and lifestyle footwear, apparel, and accessories. It operates 358 stores in 39 states. Its leading brands include Nike, Adidas, and Reebok <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RBK)") else Response.Write("(NYSE: RBK)") end if %>.
About a third of sales come from apparel and accessories, a relatively high percentage for the industry. The company has been opening larger format stores with 10,000 square feet and sometimes more. These stores carry a greater variety and amount of apparel.
In Q3, 28 new stores were opened while 6 others were remodeled or expanded. So far this year, the company has added 59 stores and remodeled or expanded 26 others. Square footage has increased at a much faster 33% clip to 2.1 million.
Insiders own about 30% of the stock, with nearly all of the Class B super-voting shares held by the company's four top executives.
FINANCIAL FACTS
Income Statement*
12-month sales: $507.7 million
12-month income: $26.9 million
12-month EPS: $0.90
Profit Margin: 5.3%
Market Cap: $186.1 million
(*Sales include Q3 results; EPS assumes Q3 earnings of $0.02. Income and margins as of August 29.)
Balance Sheet*
Cash: $58.8 million
Current Assets: $188.7 million
Current Liabilities: $63.5 million
Lease Obligations: $5 million
(*As of August 29. Cash includes $16.2 million in long-term securities; doesn't account for stock buyback.)
Ratios
Price-to-earnings: 8.2
Price-to-sales: 0.37
HOW COULD YOU HAVE SEEN IT COMING?
On August 5, price-cutting moves by Venator punished all the athletic shoe retailers. Finish Line stumbled for a $6 1/16 loss to $13 7/16. Whereas an earlier Raymond James downgrade could be chalked up to the stock's fast-footed ascent, the downgrade from Morgan Stanley that followed this plunge was the first of several indicators telling investors to use their Jordans to flee.
The company warned on August 13 that Q2 EPS would come in as low as $0.29 versus estimates of $0.40. Management also projected full-year EPS of as low as $1.00 versus estimates of $1.21. CEO Alan Cohen said, "As we look to the remainder of this fiscal year, we anticipate a continued promotional environment, especially in apparel."
That was especially bad news for Finish Line. Also, about 35% of second half sales come from apparel versus 26% in the first half. Sure, footwear sales were okay in Q2, but there was no guarantee the NBA would play ball this winter. That would naturally have some impact on footwear sales, which were already being hurt by discounting.
In short, trouble was afoot.
WHERE TO FROM HERE?
Analysts have cut their earnings estimates yet again, so they're now expecting $0.87 a share for FY99 ending in February and $1.08 for the following year. Assuming the company can meet these numbers, the stock trades at just 7.4 times forward estimates, making it a real bargain.
But is it? At least some insiders who have been nibbling at the stock think so. The board seems to concur. As of November 28, the company had bought, at an average price of $8.96, about half of the 2.6 million shares authorized for repurchase on September 3. The board wasn't just bluffing.
There's no question that Finish Line faces short-term challenges. Still, the company is managing its inventories, which are down 20% on a square foot basis from last year. Due to quick markdowns, apparel inventories are down more than 20%, though they were also a little high a year ago.
Management remains optimistic about new footwear sales, with some pick up in cross-training (which was down 23% on a comp basis in Q3), good but slower growth in running (up 26% in Q3), and steady b-ball sales. A return of the NBA would certainly help.
Apparel sales could be pumped up by the March introduction of both Polo Sport and Nautica shops, especially within The Finish Line's larger stores. The company has also begun a private label apparel program, which could represent 10% to 15% of apparel and accessory sales next year. When it's not being blown out on sale, apparel carries higher margins than footwear.
The company plans to increase its square footage by 25% next year, but it also plans to be more discriminating when signing leases. The company paid too much for some 8- to 10-year leases last year amidst the industry's real estate grab.
Finish Line still must deal with a promotional environment led by the troubled Venator. Longer term, it could also see stronger mall-based competition from Just for Feet's <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: FEET)") else Response.Write("(Nasdaq: FEET)") end if %> Athletic Attic stores.
Yet, the company is run by pros, and it sports some of the most attractive stores around. Though it may be too early to play the potential rebound, a further drop due to tax-loss selling might provide an especially attractive buying opportunity. Interested Fools should research the industry's players, and maybe hit the malls.
-- Louis Corrigan
([email protected])
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