This Small-Cap Apparel Maker Might Have Room to Run

Anh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

In the recent Forbes list of America’s 100 Best Small Companies, there is one apparel retailer that has experienced good revenue growth and consistent return on equity. It's True Religion Apparel (NASDAQ: TRLG).

In the past twelve months, the company’s share price has decreased more than 1.3% to only $26 per share. Is True Religion Apparel a good business to invest in at its current trading price? Let’s find out.

Business snapshot

True Religion Apparel is the designer, marketer and distributor of premium fashion apparel under the brand “True Religion Brand Jeans” to consumers globally. It operates under four main business segments: U.S. consumer direct, U.S. wholesale, international and core services.

While the company has 86 full-price retail stores and 36 outlet stores in its U.S. consumer direct segment, the international segment includes 20 full-price retail stores and 10 outlet stores. 

More than 60% of total 2012 revenue, or $281.6 million, was generated from the U.S. consumer direct segment. The U.S. wholesale ranked second, with $99.2 million, while the international and core services segment generated $83.8 million and $2.7 million, respectively.

In terms of operating income, while the U.S. consumer direct and the U.S. wholesale segments contributed $93.7 million and $44.3 million, respectively, core services produced a loss of more than $67.8 million.

Good return on equity on a debt-free balance sheet

In recent years, True Religion Apparel has experienced rapid growth in its top-line performance but small increases in its bottom-line results.

For instance, between 2008 and 2012, revenue increased from $270 million to $467 million, while net income rose from $44 million to only $46 million. In 2012, the company generated $64 million in operating cash flow and $42 million in free cash flow.

In the five-year period through 2012, the company maintained double-digit return on equity, fluctuating in the range of 14.6% to 37.4%. What interests me is the company’s conservative capital structure with no debt.

As of December 2012, it had $333 million in total stockholders’ equity, $186 million in cash and short-term investments and no debt. The total liabilities stayed at only $73 million.

The cheapest apparel company

At $26 per share, True Religion Apparel is worth around $658 million in market capitalization. The market values the company at only 5.1 times EV/EBITDA.

Compared to its much bigger peers, including VF Corp (NYSE: VFC) and Gap (NYSE: GPS), True Religion Apparel has the cheapest valuation. Gap, at around $35 per share, has a total market cap of $16.5 billion. It has a bit more expensive valuation at approximately 6.8 times EV/EBITDA.

VF is the largest company among the three, with around $18.5 billion in total market cap. At around $168 per share, the market values VF the most expensive at 11.3 times EV/EBITDA.

In terms of profitability, True Religion Apparel delivered the highest operating margin at nearly 17%. VF ranked second with 13.75% in operating margin while Gap's operating margin is the lowest at 12.4%.

However, Gap generated the highest return on invested capital at 22.8%, whereas the ROIC of VF and Gap were 14.9% and 14.5%, respectively.

Income investors might love True Religion Apparel the most with its juicy dividend at 3.1%. Both VF and Gap pay dividends with lower yields at 2.1% and 1.7%, respectively.

My Foolish take

With the highest dividend yield, strong balance sheet, highest operating margin and lowest valuation, True Religion Apparel could be worth more in the near future. Shareholders of the company might realize gains sooner as the company is exploring to sell itself. In a buyout, the company might fetch a valuation of at least eight times EV/EBITDA, or $40 per share, more than a 50% premium to its current stock price. 

Anh HOANG 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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