PLCE - The Children's Place: Not In A Great Place

2023-04-25 07:03:11 ET

Summary

• The Children's Place has seen multiple boom-bust cycles in the past.
• The company expected to replicate the 2021 performance in 2022, but did not come, among others because of inflationary pressures.
• This disappointment comes amidst a big increase in leverage, something which makes me extremely worried going forward.

Over the past summer, I concluded that shares of The Children's Place ( PLCE ) did not provide a place for me. I arrived at this conclusion after the company has seen another boom-bust cycle since the outbreak of the pandemic.

Even as 2021 has been very strong, I was impressed with the track record, as appeal was not imminent to me, despite low earnings multiples.

A Recap

Shares of The Children's Place peaked around the $150 mark in 2018, as shares were down to $60 even ahead of the pandemic. Shares fell to just the teens a few weeks later, to rally above the $100 mark in the bull run of 2021. Ever since, shares fell to the $40 mark in the summer of 2022, in a tougher environment.

Ahead of the pandemic, The Children's Place posted a 3% fall in 2019 sales to $1.9 billion, amidst negative comparable sales growth, with operating profits down 14% to $96 million, as net earnings of $73 million came in around $5 per share. While earnings power was still solid, long term pressure on the retail sector was evident in the results.

Net debt of a hundred million was minimal in relation to $170 million in EBITDA, although the business historically has operated with a net cash position. This was the result of accelerated buybacks, as over a billion was spent on buybacks in the 2010s, often at prices above the $100 mark, raising capital allocation questions.

In March 2021, the company posted its results for the very tough year 2020. Full year sales fell to $1.5 billion as the company posted a GAAP loss of $140 million and adjusted loss of $53 million, as this actually looked pretty reasonable given the circumstances.

The company saw a strong recovery in 2021 (as reported early in 2022) with revenues back to $1.9 billion as GAAP profits came in at $187 million, or more than $12 per share, with adjusted earnings even coming in a bit higher. The fact that profits were far greater than 2019, when similar revenues were reported, was very telling, an indication that margins were not sustainable.

The 2022 guidance was a bit uncertain, as the company guided for double digit earnings per share. Note that this is not growth, but suggests that earnings per share were seen at $10 per share, or in excess of that.

The performance during 2022 quickly raised some doubts on that outlook, as first quarter sales for 2022 fell 17% to $362 million on the back of poor weather, inflationary pressures and an end to Covid-19 stimulus spending. With first quarter earnings more than cut in half to $1.43 per share, there were real risks to the guidance, and hence I did not automatically see appeal at $40, despite the promise of more than $10 in earnings per share.

This made me a bit cautious as poor cash flow conversion in the first quarter made that net debt rose to the $200 million mark, as the $12 earnings per share power in 2021 was clearly not sustainable. While the pullback from the highs looked compelling, I remain unimpressed with the long term (capital allocation) strategy of the business and continued challenges in the core retail operations.

Shares Are Stuck

Since the summer, shares of the company have traded in a $30-$55 range, and with shares trading on the lower end of the range, shares have come down since the past summer.

If we fast forward to March of this year, we see the company having posted its 2022 results. In the end, 2022 has been a very soft year as one disappointment followed the other with full year sales falling more than 10% to $1.71 billion as the company actually posted an operating loss of a million and change. Net losses came in around a million, or $0.09 per share on a GAAP basis. Adjusted earnings came in a penny better, coming in a huge way from the $10 per share mark, or more, seen at the start of the year.

These losses and continued buybacks resulted in the company taking on a lot of debt. In fact, net debt came in at $320 million ahead of lease liabilities. The company attributes the poor results due to inflationary pressures, but a double digit sales declines amidst a period of higher inflation shows that this is only part of the reason. The company does expect some kind of normalization in the 2023 results, but it will be a tough year.

After all, sales are seen down to $1.62-$1.66 billion, yet margins should improve a bit as full year earnings are seen between $2.50 and $3.00 per share, as the company guided for tough results in the first quarter.

With 12.3 million shares now trading at $30, the market value has shrunken to $370 million, almost at par with net debt now. The market is clearly concerned about the competitive position of the firm, but unlike past episodes, the company has now taken on quite some debt as well.

Concluding Remark

Being cautious at $40 in spring of last year, in a year in which earnings should come in around $10 per share, I am growing even more cautious now. While shares are down to $30, the reality is that the anticipated earnings number of $10 per share, (or more) came in flat. Moreover, net debt has been building up, creating huge operational risks of the stock going forward in a higher cost of debt environment.

Hence, I can only reiterate my concerns and question marks around capital allocation choices being made, and absolutely see no reason to go for some bargain shopping here.

For further details see: