CA - Donville Kent - Reitmans: Investors Might Be In For A Surprise Later This Year
2023-05-10 00:20:00 ET
Summary
- Reitmans stock was strong coming into the quarter but sold off on the earnings announcement.
- If investors think judging Reitmans’ health based on Q4 is correct, then they will be surprised later this year when we predict they report even higher profitability numbers than last year.
- We estimate RTMAF is currently trading on 2.2x next 12-month earnings.
The following segment was excerpted from this fund letter.
Reitmans ( RTMAF , RET:CA )
In our last newsletter, we included our analysis on Reitmans. Since then, the company has reported their Q4 results, and we have met with management to discuss the business and strategy. The stock was strong coming into the quarter and sold off on the earnings announcement. We think the stock sold off for a few reasons.
- Investors seemed to be expecting a catalyst around up-listing to the TSX, buybacks, and/or dividends. None of these happened but we’ll discuss below.
- Q4 is their seasonally weakest quarter for profitability. After coming off their most profitable quarter in Q3, there may have been uninformed high expectations.
- The financials were “messy” in the sense that there were many one-time distortions in 2021 due to Covid, and then more distortions in 2022 due to CCAA and one-time bonus payments.
Investors may have been expecting announcements around capital allocation or up-listing to the TSX. After speaking with management, they are ahead of plans and those decisions have come up faster than expected. We have spoken with some institutions who are interested in investing but are precluded by the venture listing. We fully expect the up-listing to the TSX to be front and center and we’re going to push for that to be a priority.
From investors and institutions that we have spoken with, their main focus is on operating margins. In 2022, Reitmans was able to do $150 million in cash flow on $800 million in sales. This was against a backdrop of a rising USD, heightened raw goods costs, heightened shipping costs and rising wage pressure. Now speaking with management and tracking these factors, the USD has declined, raw goods prices like cotton have declined, and wage pressure has subsided.
An important point to note is that there were large one-time bonus payments in 2022. The landscape was obviously very uncertain coming out of both Covid and CCAA. The company set goals, mostly based on store profitability, and they greatly surpassed those targets leading to bonus payments. From our understanding, these bonus payments, around $20m in 2022, won’t be ongoing and that significantly boosts profitability margin projections for 2023.
There are a lot of adjustments to make in order to get a sense of the underlying health of the business. These include adjusting for past Covid impacts, CCAA impacts, and tax impacts, plus one-time employee bonus payments. Their Q4, on our adjusted numbers (bonus, tax, etc.) made roughly $6m. Q4 and Q1 are their seasonally weakest quarters. They usually make a majority of profits, close to 100% actually, in Q3 and Q4. If investors think judging Reitmans’ health based on Q4 is correct, then they will be awfully surprised later this year when we predict they report even higher profitability numbers than last year.
The most important aspect to stress from our meeting with management is the change in management mentality over the past 2 years. This is a different company coming out of CCAA. The CEO who had been running the business the past couple decades passed away late in 2019, and there has been both management and board changeover. This has led to a focus on per store profitability which we think is the number one reason for continued profitability going forward. Incentives are now aligned because they focus on per store profitability plus the strategy isn’t a quest to expand and grow for growth’s sake. Additionally, there is no longer pressure from the top to build a war chest of cash. We think this leads to interesting capital allocation decisions later this year.
Based on normalizing earnings and after our discussion with management, we estimate the stock is currently trading on 2.2x next 12-month earnings (2.2x P/E). We continue to acquire shares in Reitmans while partially offsetting retail recession risk by shorting more expensive and levered retail competitors.
DISCLAIMERReaders are advised that the material herein should be used solely for informational purposes. Donville Kent Asset Management Inc. does not purport to tell or suggest which investment securities members or readers should buy or sell for themselves. Readers should always conduct their own research and due diligence and obtain professional advice before making any investment decision. DKAM will not be liable for any loss or damage caused by a reader's reliance on information obtained in any of our newsletters, presentations, special reports, email correspondence, or on our website. Our readers are solely responsible for their own investment decisions. The information contained herein does not constitute a representation by the publisher or a solicitation for the purchase or sale of securities. Our opinions and analyses are based on sources believed to be reliable and are written in good faith, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. All information contained in our newsletters, presentations or on our website should be independently verified with the companies mentioned. The editor and publisher are not responsible for errors or omissions. Past performance does not guarantee future results. Unit value and investment returns will fluctuate and there is no assurance that a fund can maintain a specific net asset value. The fund is available to investors eligible to invest under a prospectus exemption, such as accredited investors. Prospective investors should rely solely on the Fund's offering documentation, which outlines the risk factors in making a decision to invest. The S&P/TSX Composite Total Return Index, the S&P 500 Total Return Index, and the Russell 2000 Total Return Index ("the indexes") are similar to the DKAM Capital Ideas Fund LP ("the fund") in that all include publicly traded North American equities of various market capitalizations across several industries, and reflect both movements in the stock prices as well as reinvestment of dividend income. However, there are several differences between the fund and the indexes, as the fund can invest both long and short, can utilize leverage, can take concentrated positions in single equities, and may invest in companies that have smaller market capitalizations than those that are included in the indexes. In addition, the indexes do not include any fees or expenses whereas the fund data presented is net of all fees and expenses. The source of the indexes' data is Bloomberg. DKAM receives no compensation of any kind from any companies that are mentioned in our newsletters or on our website. Any opinions expressed are subject to change without notice. The DKAM Capital Ideas Fund, employees, writers, and other related parties may hold positions in the securities that are discussed in our newsletters, presentations or on our website. DISCLAIMER All estimates, projections, and calculations have been generated by DKAM. This does not constitute advice for personal investments but rather a breakdown of how Donville Kent approaches stock analysis.
Readers are advised that the material herein should be used solely for informational purposes. Donville Kent Asset Management Inc. does not purport to tell or suggest which investment securities members or readers should buy or sell for themselves. Readers should always conduct their own research and due diligence and obtain professional advice before making any investment decision. DKAM will not be liable for any loss or damage caused by a reader's reliance on information obtained in any of our newsletters, presentations, special reports, email correspondence, or on our website. Our readers are solely responsible for their own investment decisions. The information contained herein does not constitute a representation by the publisher or a solicitation for the purchase or sale of securities. Our opinions and analyses are based on sources believed to be reliable and are written in good faith, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. All information contained in our newsletters, presentations, reports or on our website should be independently verified with the companies mentioned. The editor and publisher are not responsible for errors or omissions. Past performance does not guarantee future results. Unit value and investment returns will fluctuate and there is no assurance that a fund can maintain a specific net asset value. The fund is available to investors eligible to invest under a prospectus exemption, such as accredited investors. Prospective investors should rely solely on the Fund's offering documentation, which outlines the risk factors in making a decision to invest. DKAM receives no compensation of any kind from any companies that are mentioned in our newsletters or on our website. Any opinions expressed are subject to change without notice. The DKAM Capital Ideas Fund, employees, writers, and other related pares may hold positions in the securities that are discussed in our newsletters, presentations, reports, or on our website. |
Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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Donville Kent - Reitmans: Investors Might Be In For A Surprise Later This Year