CTRN - Citi Trends: Uncompelling And Struggling

2023-09-13 08:14:25 ET

Summary

• CTRN’s revenue has grown at a CAGR of 2%, a disappointing achievement and reflective of its lack of commercial development and increased competition.
• We believe the business is poorly positioned for the future, with an insufficient online presence and better value in the market from peers.
• CTRN’s margins are disappointing and declining, owing to an evaporation of demand and an inability to adequately respond.
• With the near-term appearing dire and no substantial upside potential long term, we consider this stock a sell.

Investment thesis

Our current investment thesis is:

• CTRN's competitive positioning is diminishing on a daily basis. We the continued development of e-commerce, the power of social media, and the physical expansion from the likes of Ross and TJX, we struggle to see the unique proposition CTRN offers.
• CTRN's scale means its margins are volatile, with EBITDA-M negative in the most recent period. We believe this risk will persist, making the business highly cyclical. Without consistent cash flows, we struggle to see investors yielding a sufficient return for risk.
• CTRN's quarterly results have been dismal, with no real response to stem the bleeding. We believe Management could do more, with numerous opportunities to at least achieve incremental improvement (even if immaterial).

Company description

Citi Trends, Inc. (CTRN) is a specialty retailer of urban fashion apparel and accessories. Headquartered in Savannah, Georgia, the company operates stores in the United States, primarily targeting value-conscious customers in urban and rural markets. Citi Trends offers a wide range of clothing, footwear, and accessories for men, women, and children, with a focus on delivering trendy and affordable fashion.

Share price

CTRN's share price has generated mediocre returns during the last decade, as financial stresses and changing industry dynamics have contributed to a worsening position. CTRN did get a boost, post-pandemic (stimulus check funded), but this was short-lived.

Financial analysis

Presented above are CTRN's financial results.

Revenue & Commercial Factors

Business Model

CTRN primarily operates a chain of retail stores, focusing on providing trendy and affordable fashion items to customers. These stores are typically located in urban or low-to-moderate income neighborhoods, with the objective being to reduce competitive pressures from the larger, national/international retailers.

The company specializes in urban and streetwear-style clothing, including apparel, footwear, and accessories. It targets a demographic that seeks stylish and culturally relevant clothing at budget-friendly prices. The streetwear trend has exploded in the last several years, likely peaking in during the post-pandemic period.

CTRN emphasizes offering value-priced merchandise, which means selling fashionable items at lower price points than many competitors. This comes with lower-quality products but the belief is that its target market has a greater preference toward style.

As the following illustrates, CTRN's interest within the US has consistently grown YoY, aligning with its revenue trajectory. This said, there has been a noticeable reversal of this trend, with interest falling to the levels seen in 2016.

The fear is that revenue develops negatively as a result of this. This would not be unusual, as the fashion industry is notoriously incredibly competitive, with consumer tastes and trends changing over time. This appears to be underpinned by a poor approach to marketing its brand. From a cursory scan of social media, the company's engagement with consumers is pitiful. Its last 3 posts on Instagram have 73 likes in total!

Competitive Positioning

The fashion retail industry is highly competitive, with numerous players ranging from traditional department stores to fast-fashion giants. The company's store footprint is relatively limited compared to some of its larger competitors, limiting its exposure to a broader customer base. The difficulty for CTRN is that greater marketing efforts by its peers have reduced its competitive position, particularly by those who offer a range of brands. This is compounded by an archaic approach to doing business by Management, with a lack of response to changes in the fashion industry.

The company's focus on urban fashion means it must closely follow and adapt to rapidly changing fashion trends. We believe the business has been poor in this regard relative to peers, likely due to its inferior capabilities. Although its designs align with its target market, they still feel dated. Increased social media activity and faster production processes are critical to succeeding in the current iteration of this segment.

Changing industry dynamics, including a preference for online shopping, has presented a major challenge for CTRN's brick-and-mortar operations. The company's pricing advantage is diminished by this, as many e-commerce-only businesses can price just as aggressively, lacking overhead costs. This is in conjunction with the wider fast fashion trends, which have seemingly replaced what CTRN offers.

Another trend, which is contradictory in nature, is the desire for more sustainable and ethically produced fashion. McKinsey research has found clear evidence to suggest consumers are showing their commitment to this trend through purchasing decisions.

CTRN faces competition from various retailers, including larger discount stores like Walmart ( WMT ) and clothing-focused chains like Ross Stores ( ROST ) and TJX ( TJX ). Additionally, it competes with e-commerce platforms like Amazon ( AMZN ).

Opportunities

Although we believe CTRN has likely succumbed to industry pressures, we do see opportunities to reinvigorate its performance.

1. E-commerce Expansion - Strengthening the company's online presence and e-commerce capabilities could be extremely lucrative, particularly if conducted alongside an effective social media push. Its current website is positioned to drive store footfall but the value proposition must be sufficient, and it is not. At least with e-commerce, convenience is provided which increases the chance of a sale.
2. Store Optimization - Evaluate store locations and sizes to ensure they are strategically positioned and efficiently operated. Also, proactively identifying new locations for expansion. In its most recent quarter, the company opened 5 stores, renovated 8, and closed 2. This is positive to see.
3. Marketing and Branding - Its social media presence and interest data speak for themselves. Significant investment in marketing and branding efforts is required to help improve the exposure of its business.
4. Operational Efficiencies - Implementing cost-effective strategies to improve margins without compromising on quality or value will be beneficial to maximizing returns, given the variability in margins during the historical period. Beyond this, however, improving design and production capabilities will support commercial development.
5. Community Engagement - Deepening community involvement and partnerships to build a loyal customer base in local markets has shown itself to be highly successful for brands that target cities outside the majors.

The issue with these factors is that we struggle to see has CTRN can execute, given its lack of scale and resources. Consumers have likely moved on and so we struggle to see a reality where growth can exceed inflation.

Economic & External Consideration

Current economic conditions present serious near-term headwinds. With high inflation and elevated interest rates, consumers are softening their discretionary spending as a means of covering their growing living costs. CTRN is feeling the impact of this, with a noticeable decline in recent performance.

Key takeaways from its quarterly performances include:

• The company has experienced an eye-watering 7 successive quarters of negative growth, with the last 3 being (13.1)%, (13.7)%, and (6.2)%. Management attributes this to the current discretionary spending environment, although we suspect this is also due to its relative competitive positioning. Prior to the stimulus-fueled period, CTRN's growth rate was <3% and so continued weakness in recent years has left it now heading downward.
• The concern is that there is no clear end in sight. Management is guiding +MSD to -LSD growth for the full year, with our view being negative growth is close to a certainty.
• Margin deterioration is due to a combination of factors. The company has increased discounting, faced inventory build-up, and experienced inflationary pressures. Management is attempting to right the ship but it is not working. In the last 2 quarters, EBITDA-M was negative, a highly concerning result.

Margins

Prior to the debacle in recent quarters and the stimulus-fueled uptick, CTRN's margins had been slightly improving but not to a material level. The variability is a reflection of demand, suggesting the business would perform well with substantial scale but this is not realistic. At its current level, continued variability is highly likely.

Industry analysis

Presented above is a comparison of CTRN's growth and profitability to the average of its industry, as defined by Seeking Alpha (31 companies).

CTRN performs poorly when compared to its peers. The company's growth significantly underperforms, reflecting its poor value proposition and market share loss. Further, its margins are also well below the average, which we attribute more to its lack of scale.

Valuation

CTRN is currently trading at 30x LTM EBITDA and 23x NTM EBITDA. This is a premium to its historical average.

A premium to CTRN's historical average is clearly unwarranted and reflects a disproportionate decline in financial performance relative to share price. A portion of shareholders will inevitably have a longer-term view, and so will not sell on the current performance. Further, despite our bearish view, the company will not continue to decline forever, it will hit a "bottom" and likely bounce back somewhat.

This reason applies to CTRN's valuation relative to peers also, with the company at a premium in key LTM and NTM metrics.

For this reason, investors must ask themselves if this is a company they would like to own, if the bottom has been reached, and whether sufficient margin improvement is possible to drive value.

Final thoughts

CTRN is not a compelling business in our view. We understand why it exists, namely targeting an underserved segment of the national population. This said, with fast fashion, the rise of e-commerce, and the continued expansion of peers (think Ross Stores, TJX, etc), we struggle to see if the market is still favorable for CTRN.

Compounding this is how the company is run. Its lack of social media penetration, adequate response to the e-commerce trend, and development of its operational capabilities are seriously problematic. Even if the business was growing, this would be a major issue.

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