This Undervalued Company Will Outperform

By William Bias - September 17, 2012 | Tickers: ANF, AEO, GPS, BKE, WTSL | 0 Comments

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As a value investor I am always on the lookout for great companies trading at reasonable or low prices. I came across a company in my Motley Fool Stock screen searches that fits the bill almost perfectly. Buckle (NYSE: BKE) is a seller of brand name apparel and accessories for men and women. It is a company with excellent fundamentals, management and low valuation. I believe this company has the potential to outperform the market in the long run.

Fundamentals

Buckle has the ability to generate, compile and payout cash. The cash to stockholder’s equity stands at 48% as of the most recent quarter. Buckle’s revenue and free cash flow growth is 85% and 101% respectively over the past five years (see charts below). I also like the fact that Buckle performed well even during the recession which means it will do even better during better times.  Fellow Fool, paul1942, in the Motley Fool Caps community seems to agree on this assessment: “constant growth over the years and adding new stores to BKE (BUCKLE). Yes, I believe it saw the hard times in the economy and it excelled, so what it will do in a robust economy? Probably very good.”

Buckle’s revenue growth far exceeds its competition. Buckle’s revenue growth is 85% versus Abercrombie and Fitch (NYSE: ANF) which is in 2^nd place at 17%. Third place is occupied by American Eagle Outfitters (NYSE: AEO) at 10%, and The Gap (NYSE: GPS) revenue has declined 7% since the recession. Buckle’s revenue keeps gaining momentum.

BKE Revenue TTM data by YCharts

BKE Free Cash Flow TTM data by YCharts

Buckle has also blown out the competition on operating margin over the past 5 years (see charts below). Buckle’s operating margin of 22% is more than double the operating margin of The Gap and American Eagle Outfitter and seven times the operating margin of Abercrombie and Fitch.

Buckle’s net profit margin is 11% which is 5 times the profit margin of Abercrombie and Fitch and 3 and 1/2 times better than American Eagle Outfitters and 4% better than The Gap. With Buckle’s margins so much better than the competition it is hard for this fundamental investor to resist looking at it further.

BKE Operating Margin TTM data by YCharts

BKE Profit Margin data by YCharts

I can’t make an investment without thinking about the company’s debt position. A company with a lot of debt is a pet peeve of mine. I like a company to have a total debt to equity ratio of less than 85%. I also like a company that has a long-term debt to equity ratio of less than 50%. Buckle’s long-term debt to equity ratio stands at 15% as of the most recent quarter and this is comprised mostly of accruals. Its total debt to equity ratio is an amazing 35%.

Good Management

The other thing I like about Buckle is that it has stable management that owns a significant portion of the company. The Chairman and founder of Buckle, Daniel J. Hirschfeld, own 34% of the company according to the latest proxy filing. Dennis H. Nelson, who has been the CEO of Buckle since 1997, owns 6% of the company. I believe management who owns a great deal of stock in a company is going to be a better steward of the company.  

Buckle’s stable management contrasts with other apparel retail companies such as Body Central that has had a great deal of management turnover. On July 5 Martin P. Doolan retired as chairman of the board at Body Central due to health reasons and on Aug. 17 the retirement of their former CEO B. Allen Weinstein was announced. The company keeps lowering its guidance for FY 2012.

Wet Seal’s (NASDAQ: WTSL) former CEO Susan McGalla was ousted on July 23 in the wake of dismal fundamentals and lousy comparable store sale comparisons.  Wet Seal has had three different CEOs and Chief Merchandising Officers over the past three years prior to her departure. Wet Seal’s stock price is down 25% over this time period. This is in stark contrast to Buckle whose CEO and Chairman have been CEO for 15 years straight. Management turnover is a cause for concern for investors.

Weighing the Risks

Buckle operates exclusively within the United States so the political risk is minimal. The exposure to threats such as strengthening of the dollar against currencies like the euro is minimal because of this.

The large cash stash and low debt combined with the growth in free cash flow and revenue make this company’s fundamental risks small. However, I would like to point out that their operating cash flow year to date has decreased 3%. Free cash flow, however, is up 27% due to lower capital expenditures. Comparable store sales for the most recent quarter were down 0.8% due to lower transactions compensated by increased prices. However, the most recent narrative on increased comparable sales for the month of August strengthens my enthusiasm for the company.

My other concern is that Buckle has maintained a high dividend payout relative to its free cash flow. In 2011 that ratio was 83% because of its special dividends. However, given their history of excellent cash management this shouldn’t be a problem.

Buckle is cheaply valued compared to its competition (see chart below). Buckle has a free cash flow yield of 8%. Buckle’s P/E ratio is around 14 as of this writing on Sept. 13. As a result, the market price risk is low as well.

BKE Free Cash Flow Yield data by YCharts

Conclusion

Given the low rating on all the facets of risk, excellent fundamentals, low political risk, stable management and low valuation make this stock a buy in my opinion. I am going to add Buckle as an outperform pick on the Motley Fool Caps game. Remember, be Foolish and always do you own research.

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