Victoria’s Secret — Spin-Off
Introduction
L Brands has announced plans to spin off Victoria’s secret to the parent company shareholders.
The company has struggled to offload Victoria’s secret for some time. The spin-off is a solution to provide value to shareholders in order to solve this strategic issue. In addition, it will enable investors to fully appreciate the true value of the respective companies.
The opportunity here is that the sum of its parts is worth more than the whole.
Victoria’s Secret incl PINK
Victoria’s Secret, including PINK, is a speciality retailer of women’s intimate and other apparel with fashion-inspired collections and prestige fragrances.
For a while now, Victoria’s Secret has been the problem child for L Brands.
The company has suffered from declining sales and loss of brand value for years, dragging down the share price of its parent company, L Brands, which in May abandoned efforts to take it private. During the pandemic, it closed 250 stores permanently.
Despite the strong uptick in online sales they haven’t been enough to make up for the decline in brick and motor revenue. McKinsey does not expect lingerie sales to return to 2019 levels until the end of 2022, or early 2023.
Furthermore, consumer appeal for lingerie is shifting and has seen appeal dissipate before the pandemic. Analysts say the shifts to comfort and inclusivity, as well as sustainability which will continue post-Covid.
Overall, Victoria’s Secret has struggled to adapt.
In 2018, its marketing chief stepped down after a backlash over his comments that transgender models had no place in the brand’s iconic supermodel-studded fashion shows. A year later, the shows were scrapped as the lingerie group sought to address criticism its marketing objectified women and lacked diversity.
L Brands agreed to sell 55 per cent of Victoria’s Secrets to Sycamore in February 2020 at a $1.1bn valuation, but the private equity group pulled out of the deal after the retailer started shutting stores and furloughing staff in response to the pandemic.
Also in February, L Brands’ billionaire founder Les Wexner stepped down as chairman amid concerns about the impact on the company’s reputation over his ties to the late paedophile Jeffrey Epstein and reports of widespread bullying and harassment at Victoria’s Secret.
Despite all this, I still believe there is a lucrative investment opportunity here.
Recently, management held a virtual investors meeting highlighting the future plans for both Victoria’s Secret / Bath & Body Works.
I strongly believe in the new strategic direction of Victoria’s Secret and improved operating performance appears to be a testament to new management being able to deliver on this.
The company is acknowledging that they’ve failed to move with times and have a new established strategic direction of being the world’s leading advocate for women.
Regardless of all the negative press throughout the year's VS still holds up well among consumers with strong global brand awareness and impressive customer satisfaction scores.
Going forward, the company is focused on growing its digital presence, reinvigorating its profitable stores and closing their unprofitable ones.
Online sales for VS have grown from $1.7bn in 2018 to $2.4bn in Q1 21. There is also an increased focus on the omnichannel experience as they’ve found the omnichannel consumer to spend twice as much annually than the single-channel customer.
Furthermore, 94% of their stores in North America are cash flow positive as of Q1 21 with the average cash flow per store coming in at $0.9m. The store count in North America has fallen from 1143 stores to 867 in 2021 accelerated by the impact of Covid 19.
Of the remaining profitable stores, they’re refreshing existing locations with the goal of having significantly lower cap-ex going forward.
Finally, the company is also focusing on improving & expanding its international presence through its diverse operating models — franchise, travel retail, joint venture, wholly-owned stores and retranslating their online site in various markets.
All of this information is highlighted in the presentation from the investor meeting here: https://lb.gcs-web.com/static-files/039e8ac1-3cfe-43de-8d5c-d3958feaa249
Valuation
Although the sale of VS fell apart to Sycamore in Feb 2021 for $1.1bn. A spin-off will catch considerably more. Citi believes that it could fetch up to $6n or 5 times EBITDA as a stand-alone company.
Let’s work with that multiple — 5 times EBITDA
Seems pretty reasonable valuation given the current conditions. Based on who the company considers direct competitors they’re trading at much higher multiples.
On a side note, before we move onto Bath & Body Works, it should be noted from the form 10 that the original founder Leslie H. Wexner and his wife Abigail S. Wexner will have a stake of 17.8% (12.7% and 5.10% respectively) I found this interesting given his recent disposal of 30m shares of the parent company L Brands.
Bullish? Who knows.
Bath and Body Works
Following the spin-off of Victoria’s Secret, the parent company, L Brands, will only own Bath and Body Works.
Bath and Body Works is one of the leading speciality retailers of body care (35%), home fragrance products(40%), soaps and sanitisers (20%).
Going into the spin-off, Bath and Body Works is in great shape and well-positioned to excel as a stand-alone company. In fact, the consensus sees it as the better of the two with Victoria Secret holding back the true performance of the company for the past while. The separation will allow the market to fully appreciate Bath and Body Works.
Let’s take a deeper dive into Bath and Body Works, shall we?
Bath and Body Works is the market leader in speciality home fragrance & fragrant body care in America. Competing directly with companies such as; Ultra Beauty, Dove, Lush and Bluemercury.
As of 2020, BBW generating $6.4bn in sales. Over the past 5 years, revenue has grown at an 11% compound annual growth rate. The company has consistently grown sales over the past 10 years from $2.6bn in 2010 to $6.4bn in 2020. In addition, the average operating income over the past 5 years has been 24.6%. Similarly, there has been consistent growth in operating income from $474m in 2010 to $1.8bn in 2020.
Again, all this information can be found from the recent investor's presentation: https://lb.gcs-web.com/static-files/039e8ac1-3cfe-43de-8d5c-d3958feaa249
In Q1 2021, the company has 55m customers spending at least $115 each annually. From 2016 to 2021 customer retention rates have risen from 45% to 57% demonstrating a very sticky customer base for a commodity type product.
In addition, lifetime spend has also been on the increase. A great focus has been placed on creating sticky customers through the recent pilot of the loyalty programme. Which I imagine will be a massive success when you think of the replenishment rates of the product.
Just like Victoria’s Secret, management is putting a greater focus on digital following Covid 19. Sales from digital have grown from $450m in 2016 to $2b in 2020. Bath&Body Works also has a large off-mall footprint in order to limit exposure to vulnerable mall locations. All brick and motor stores are 99% cash flow positive. Management is also focused on closing stores in malls that pose a large risk of closure or significant declining footfall.
Similarly to Victoria’s Secret there international expansion plan to a partnership-based business model. Bath & Body Works will own assortment, pricing architecture, promotions, store designs and real estate approval. In exchange, partners make investments as experts in local real estate, people and practices. In addition, partners will ensure coaching, training, expediting and escalating. The whole international operation will work on a royalty basis. I don’t expect large revenues but lower costs and higher profitability from the international segment.
Covid accelerated the transition to a more direct online channel driving sales from online operations up 109% (2020). Management is focused to grow the brand organically domestically and internationally. In addition, in Q1 sales per average store was shown to increase significantly by 149% on 2020 which is unsurprising given Covid.
*Given the lack of direct competitors that are publicly traded I decided to compare it to Ultra Beauty which currently trades at an EV-EBITDA of 19. The company generates roughly the same level of sales. Let’s just use half of this multiple (9.5 — rounded to 10 for good measure)
** Accounting for the share repurchases announced of 30’041’646 — before the repurchase the shares outstanding are — 276,821,306.
***Debt = $5.8bn per the Q1 21
**** Cash = $2.8bn (per Q121) — 332m (cash balance of VS) + 1bn (cash received for VS dividend following separation = 3.5bn (est not 100% accurate)
It should be noted that both valuations are just a conservative proxy as to what the independent valuations might be. As of this est, the sum of the parts is worth about $85 relative to the share price of $75 at the time of writing. Not a large difference but I expect the future performance of both these companies going forward to be excellent.
Overall, I see a limited downside with a lot of upside potential.
I hold a current position size: 85 shares @ the average price of $70.77
Much of the views here are a collection of notes that I have pulled together or directly taken from other sites / write-ups which I have linked below.
DISCLAIMER:
All investment strategies and investments involve the risk of loss. Nothing contained in this article should be construed as investment advice. I’m not a financial advisor, all content in this article is purely for discussion purposes. Any reference to an investment’s past or potential performance is not, and should not be construed as, a recommendation or as a guarantee of any specific outcome or profit. Any ideas or strategies discussed herein should not be undertaken by any individual without prior consultation with a financial professional for the purpose of assessing whether the ideas or strategies that are discussed are suitable to you based on your own personal financial objectives, needs and risk tolerance.