Only in the case of JOSB, it sounds like this: “EVERYBODY goes there because it is NOT crowded.” As most men who shop there will attest, you are lucky to see and handful of customers shop at there at once at any given time. Nevertheless, it seems that JOSB operates in a very different economy and there is an incredible disconnect between its performance this year and the rest of the economy as well as other retailers.

JOSB reported 3rd quarter numbers couple of days ago and they were stellar even by a healthy economy’s standards.

They were truly incredible considering that negative double-digit same-store sales for retailers have become the norm. JOSB reported same store sales of 7% for the quarter (the company doesn’t report monthly numbers anymore). Total sales were up 13.7%. Operating profits before taxes were up 20.3%. Cash was up year-over-year, and inventory growth lagged sales. Every single metric was simply beautiful.

A great number of the company’s stores were opened over the last three years which puts them in the category of “immature.” New stores, almost by definition, generate lower sales than mature stores. As stores mature, same store sales rise and profit margins expand. In addition, the company is able to spread advertising dollars against a large store base, which is another reason why the margins increased.

By the year-end JOSB should have over $100 mln of cash, which is about a quarter of its market cap. The margin expansion may actually continue into next year. JOSB said that it will slow down store openings next year but it will increase offerings of big and tall merchandise. I believe this will help JOSB generate more free cash flow as well as drive (a much higher margin) same store sales.   At some point the economy will catch up with this retailer, but a lot of internal positives I just mentioned should mitigate the external negatives. 

I presented JOSB at Value Investing Congress in Pasadena this year (see slide 31 and on).

We DON’T have a position in the stock, we sold out in September.

Dear Barry,

You’re making an excellent point. When I bought the stock, I was looking for margins to expand above where they are today; now, I don’ t have that expectation. But JOSB’s stores have sales per square foot of roughly $330 – much less than Men’s Wearhouse’s $480.

The main difference is store maturity – or immaturity, to be precise. Half of JOSB stores are less than 5 years old. As stores mature, operational leverage kicks in (rent and sales expenses remain the same while sales rise), and margins expand. We saw it happen this quarter: G&A expenses were down 40 basis points.

Of course, operational leverage works both ways, and a decline in sales will trigger a decline in margins. A slowdown in the economy will therefore negate some of the gains in margins that I expected – but there’s a good chance that margins will hold up.

Also remember that our economy’s been slowing down for a while now, but JOSB was still able to kick in incredible numbers. So how is JOSB different from a firm like Caterpillar (CAT), or another “stuff” stock that will likely see its margins contract in the not-so-distant future?

Stuff stocks are operating in an abnormally favorable environment, where demand for their product is driven by superfast (unsustainable, at least in the intermediate run) growth in China and the rest of the developing world. Over the last 2 years, JOSB  was operating in this benign environment.

Would its earnings decline if our economy went into a tailspin? Very likely, but their margins today are normal – actually, lower than normal. Plus, even if you take margins down a bit, the stock is still cheap.

Vitaliy

Why do I have to subject myself to this pain? It’s simple: 92% of Jos. A. Bank’s share float is short. Yes, for every 100 shares that are available to be traded 92 are short. I have never seen that ratio this high, ever!

Short-sellers are smart cookies. What do they know that I don’t? As one animated TV personality might say, or actually yell, “They know nothing!”

This is one hated stock. Shorts have been arguing for a long time that the company’s inventory is too high. Jos. A. Bank’s inventory level is double that of its closest competitor Men’s Wearhouse, and it has doubled since current management came on board in the late 1990s.

Usually, high inventory level is a sign of trouble for a retailer; this is not the case with JOSB. Inventory was increased deliberately, and that increase brought an improvement in every single operating ratio: sales per square foot, profit margins, return on capital and more. JOSB management has embarked on this unorthodox strategy not because it wants to make short-sellers happy; quite the opposite, because men only shop a couple of times a year, and thus the company wants to make sure that the shopping experience is pleasant and that all the sizes and styles needed are available. Also, this is not a teen retailer or grocery store where inventory “spoils” in the matter of days. Look at a picture of President Kennedy and then a couple of this year’s candidates. Men’s fashion hasn’t changed much in 20 to 40 years it won’t change much in the next 20.

On Wednesday, when JOSB reported July quarter results, there were no surprises. Sales were up 13%, and inventories up 12.3%, but they lagged sales growth, a great sign. The company is maintaining its gross margins–they did not budge in the quarter–but it has increased its marketing spending dramatically, explaining why earnings were up only 7.5% in the quarter or 14.1% for the six-month period.

JOSB must be taking market share and taking names. Oh, please somebody explain to short-sellers that JOSB has no interest-bearing debt and has $60 million cash (I expect the cash number to push over $100 million by the end of holiday season) and is trading at 7.5 times earnings if you take out the cash.

I presented JOSB at Value Investing Congress in Pasadena in May this year, here is a link to the presentaion (opens PDF, see slide 32 and forward)

Forbes.com

If you would like to receive my articles by email (usually couple days before I post them to this website), drop me a line.  

Amex is one of the best, most transparent (you can actually analyze it) financial companies I’d want to own in today’s environment.  We’ll probably get an opportunity to load up on it in the future, albeit at a lower price.

I ended up presenting my very contrarian case on Joseph A. Bank, 93% of float is short.  Here is a link to the full presentation, JOSB starts on slide 31.   

At some point its advertising expenses will start declining as percent of sales and margins should go up further. At today’s incredibly cheap valuation of 10x 2007 earnings, all the company had to do is be able to fog a mirror – they did a lot more than that. It seems that this performance has legs as same store sales in November came in at 15%.

I wrote several articles in the past, little have changed since. Well, except earnings are up in 30-40%, inventory is not a concern anymore and stock price is back to where it was then.

But 2.3% decline on 25% plus appreciation over last 12 months? That is not just me being “tough Russian” that is just common sense. This sell of in financials created opportunities in two of my favorite stocks First Marblehead (FMD) and US Bancorp (USB) (OK, USB is less of a favorite, but 5.2% yield and ultra conservative management is what I look for in a bank, I don’t want any lending heroism or Star-Treckish will go where nobody has gone before).

Also, Jos A Bank (JOSB) lost 10 points in over last couple weeks, and its valuation is very alluring at this point. A weak economy may shave off couple points of its growth rate over next couple years, but it should still do EPS growth somewhere in the mid-teens.

My gripe (and Herb agrees) with the management is that they decided that no Q&A is needed after the quarterly conference call. I completely understand why the company’s management may decide to spend their time on a more productive endeavor than answering sell side analysts’ questions which most of the time have little to do with the company’s long-term future, but zero in on minute, often irrelevant short-term details. That being said, management should have done a better job communicating to the Street the change in Q&A practice.

JOSB’s marketing strategy is the weakest link in its business model. It is extremely short-term oriented and not about long-term brand building.   I’d argue that it cheapens its brand. Where Men’s Warehouse’s (MW) “I guarantee it” commercials tell you about product quality and a pleasant shopping experience (long-term brand building strategy), JOSB commercials sound like it’s a cheap car dealership that you’d expect to see in the deep suburbs of nowhere land, with a very annoying voice that tells you something along the lines of, “Only this Tuesday, the whole store is 50% off!” But don’t worry, if you missed this Tuesday special, there are other days of the week; Wednesday, Thursday… you get the point.   Yesterday, while reading JOSB’s latest 10Q, I heard the commercial at least three times on CNBC. This short-term driven marketing strategy is responsible for the volatility of same store sales.

You wrote about Home Depot (HD):

“…need to separate between the analysis of a company and a stock?”

Who are you kidding with this philosophical dribble? The CEO is ‘directly’ accountable to share holders for value, hence the generous compensation. To claim the stock was “overpriced” since 2000 is laughable but not laudable.

Before you suggest (again) a bonus for “ole Bobbie” consider the shareholders’ ROI…or would that be “just plain silly?”

Scott

Scott,

A CEO’s responsibility is to create shareholder value. But a CEO’s job is to achieve that through earnings and increasing the moat around the increasing return on capital, growing business; not through stock manipulation. In the late 1990s, Home Depot’s stock was overpriced – that is not CEO’s fault. Even if Bob Nardelli was the CEO then (though he was not), the blame goes to overexcited investors. The CEO was not the person who drove Home Depot’s stock to ridiculous valuation – investors were.

In addition, Home Depot’s, as well as Lowe’s (LOW) stocks trade at low valuations (P/Es in the low teens), not because of their respective CEOs’ wrong doings but because investors are concerned about how the fallout of the housing market will affect their earnings. I have not done enough analysis on either Home Depot or Lowes to have an opinion on whether or not these fears are already more than reflected in the price of the home improvement stocks (often when everybody knows the reasons why NOT to own the stock, great investment opportunities are created). But again those fears are not the CEO’s doing.

Yes, you have to learn how to separate a good company and a good stock, a good company becomes a good stock at a certain price, not at every price. For instance, look at a company I’ve written about many times in the past, Jos. A. Bank (JOSB). I believe it is a great company and a great stock at $30 (today’s price), but if tomorrow it started trading at $500 (100 times my approximate 2009 best case EPS estimates) it would still be a great company, just not a great stock.

If investing was only about buying great companies at any price, then it would be a walk in the park, you’d identify great companies and buy them at any price. The trick in investing (at least how I see it) is to identify great stocks – great companies that are mispriced (trade below their intrinsic value).

Should Home Depot board give Bob Nardelli a bonus? Well, I’ve been facetious with that recommendation. However, any way you slice and dice the company’s operational performance (his core responsibility), since he took over he’s done a terrific job of creating shareholder value.

September 12, 2006 – The Motley Fool

Jos. A. Bank (Nasdaq: JOSB) has reported its second-quarter numbers, and they aren’t good — they’re great! To start with, sales were up 20.8%, and gross and operating margins improved, mainly driven by maturation of the company’s fairly new store base. But the Jos. A. Bank story is not about growth — it always had plenty of that. It is about inventories, and they were the bright, shining star of this quarter. Specifically, inventories increased only 11.7% over the second quarter last year. So why is that great news? To answer that question, it’s necessary to understand the issues surrounding Jos. A. Bank.

First, it has double the inventory days (a measure of how long it takes to convert inventory into sales) of its closest competitor, Men’s Wearhouse (NYSE: MW), and second, it had a terrible first quarter due to too much seasonal inventory. I have written two long articles on the first issue, so let me address the second issue here. At the end of last year, Jos. A. Bank had some incredible, blockbuster same-store sales numbers. As the company prepared for future sales growth, it continued to stock up on winter inventory. However, the winter was warmer than expected, and demand did not materialize. The company launched an aggressive fire-sale campaign to move that entire seasonal inventory, and the stock was slaughtered as margins crashed and earnings estimates were missed.

Wall Street was concerned that Jos. A. Bank’s “let’s have a year of inventory” strategy was falling on its face. Last quarter, the company’s management said it had been too aggressive with price cutting — the benefit of hindsight showed that prices didn’t need to be cut so much. Management also said it will not be cutting prices for winter merchandise in the second quarter. Declined inventory on a per-store basis and improved margins suggest that management kept its word. In fact, margins improved on an overall basis. The only cost that was rising (slightly) faster than sales was sales and marketing, which makes sense as the company has been spending more money on TV advertising.

Though inventories increased, they have grown at a much slower pace than sales — a very important nugget of information. I expect inventories will still be growing in the future, but probably slower than sales, as inventories in established stores will not be rising. This is great news on many fronts. First, the company’s free cash flows will start outpacing net income growth, and second, the management that took an unorthodox strategy will gain credibility with the Street — and the company’s stock will reflect that. Let’s quickly take a look at three important components of any investment: quality, valuation, and growth.

Quality:

1. Balance sheet: With the exception of leases, the company has almost no debt.
2. Return on capital: This number has improved on a consistent basis since 2000 (despite rising inventories per store).
3. Sustainable competitive advantage: JOSB is not a Wal-Mart (NYSE: WMT), but it has a product and a distinct brand that men want and it provides a better, more personal shopping experience than Men’s Wearhouse.
4. Free cash flow: On average, operating cash flows have consistently grown in line with net income — a good sign in itself. As inventory growth decelerates, free cash flows will follow.
5. Management: So far, it’s done everything it said it would do. It made mistakes along the way (i.e., the first-quarter mishap), but nothing that would make me doubt its unorthodox strategy.

Valuation: The stock is cheap! It is trading at 13 times next-year numbers and at 5.4 times my $5 estimates for 2009 (yes, I do look that far).

Growth: The company is set to open about 150 stores over the next three years to bring its total store count to 500 by 2009. As its fairly young store base (more than half of its stores are less than three years old) matures, its margins will increase, driving earnings growth in excess of sales growth. Owning Jos. A. Bank requires one to think independently from the rest of the pack. Analysts don’t get fired for owning conventional stocks like IBM (NYSE: IBM) or Colgate (NYSE:CL), but they do get fired for owning a company that has double the inventory days of a close competitor. Investing in JOSB requires a strong stomach for high short-term volatility and a conviction that can only be achieved from one’s own in-depth research.

Vitaliy N. Katsenelson, CFA