2023-08-01 09:17:06 ET
Summary
- 7% long-term earnings growth driven by mass casualization of sneakers as well as the rise in popularity of performance footwear.
- Foot Locker is prioritizing its omni-channel to seamlessly integrate the off-line and on-line shopping experience to drive growth.
- New CEO, Mary Dillon looks like a great hire with a proven track record of success.
- 17.5% annual return expected over the next 5 years based on a DCF model.
Investment Thesis
I believe Foot Locker Inc. ( FL ) stock is a buy. The company offers an attractive investment proposition with a forecasted long-term earnings growth of 7%. This growth is likely to be powered by the widespread adoption of sneakers as casual wear and the surging popularity of performance footwear, trends that Foot Locker is primed to leverage. The company's strategic emphasis on bolstering its omni-channel capabilities, which harmoniously blend offline and online shopping experiences, is another significant catalyst for growth. The recent appointment of Mary Dillon as CEO, known for her successful leadership track record with her former company Ulta Beauty, further fortifies the company's management team. Based on a Discounted Cash Flow ((DCF)) model, the company is projected to deliver a robust annual return of 17.5% over the next five years.
Business Overview
Foot Locker is a leading global retailer specializing in athletic footwear and apparel. The company operates approximately 3,600 stores across 21 countries, making it a significant player in the global retail sector. Foot Locker's business model is centered around providing high-quality, branded athletic footwear and apparel, primarily targeting the youth market. The company operates through a variety of store formats, including Foot Locker, Kids Foot Locker, and Champs Sports, each catering to different customer segments.
The company's stores offer a wide range of products from leading athletic brands, creating a comprehensive shopping experience for customers. Foot Locker's strong relationships with major athletic brands enable it to offer exclusive products, which differentiates it from competitors and drives customer loyalty. In recent years, Foot Locker has been adapting its business model to the changing retail landscape. Recognizing the growing importance of e-commerce, the company has been investing in its online platforms to enhance the customer shopping experience. This digital transformation has allowed Foot Locker to reach a broader customer base and adapt to changing shopping habits.
Performance Footwear Going Mainstream
I believe there are multiple long-term growth drivers that shall propel growth for Foot Locker over the next 5 years which should allow Foot Locker to hold its leadership position in the $80 billion global sneaker market .
The first long-term growth driver is mass casualization driven by the hybrid work model. The shift towards remote and hybrid work models due to the pandemic has led to a change in consumer preferences in apparel and footwear. As more people work from home, the demand for casual and comfortable clothing and footwear has increased significantly.
In this context, sneakers, which are at the core of Foot Locker's product offerings, have become an essential part of the "new normal" wardrobe. They are no longer just for sports or leisure activities but have become a staple for everyday wear. The versatility of sneakers, which can be paired with both casual and semi-formal outfits, makes them an ideal choice for the hybrid work model, where employees may work from home on some days and from the office on others. As seen in the image below the Hybrid Work Model is expected to grow from 42% in 2021 to 81% in 2024.
Foot Locker Investor Presentation 2023
Additionally, I believe performance footwear in general has been becoming increasingly more mainstream. As the lines between sportswear and everyday attire continue to blur, performance footwear has emerged as a popular choice for consumers. This trend is driven by the growing emphasis on comfort and functionality in fashion, and Foot Locker, with its extensive range of performance footwear, is at the forefront of this shift. The mainstream acceptance of performance footwear has been further accelerated by the endorsement of celebrities and influencers, who often set fashion trends. As performance footwear continues to gain popularity in the mainstream fashion scene, Foot Locker is well-positioned to capitalize on this trend, further solidifying its place in the global sneaker market.
Sneakers have evolved beyond their traditional role as athletic footwear and have become a powerful medium of self-expression. They are now seen as a reflection of one's personality, style, and even values. This trend is particularly pronounced among younger consumers, with 25% of teens identifying as 'sneakerheads', indicating a deep interest in sneaker culture. Foot Locker, with its diverse range of sneakers, caters to this trend effectively. The company offers a variety of tastes, styles, and preferences, allowing customers to find the perfect pair that resonates with their individuality. From classic designs that evoke a sense of nostalgia to bold, innovative styles that push the boundaries of fashion, Foot Locker's selection of sneakers offers something for everyone. The company also collaborates with leading brands and designers to offer exclusive releases and limited-edition sneakers, providing customers with unique pieces that can't be found anywhere else. These exclusive offerings allow customers to express their individuality and stand out from the crowd. As an investor, one can see that Foot Locker understands that sneakers are more than just footwear - they are a canvas for self-expression. The company's commitment to providing customers with the means to express themselves through their products, and its ability to tap into the growing 'sneakerhead' culture, sets it apart in the competitive retail market.
Foot Locker’s Omni-Channel
Foot Locker's omni-channel strategy has been a key factor in its ability to adapt to the evolving retail landscape. The company has seamlessly integrated its online and offline channels to provide a unified and enhanced shopping experience for its customers. This strategy allows customers to shop across multiple channels, be it in-store, online, or through mobile devices, and receive a consistent and personalized experience.
Foot Locker's omni-channel approach also includes features like 'Buy Online, Pick Up In-Store' (BOPIS), which provides customers with the convenience of online shopping and the immediacy of in-store pickup. This not only improves customer satisfaction but also drives additional sales as supported by the image below.
Foot Locker Investor Presentation 2023
Foot Locker's investment in digital transformation has been a strategic move to enhance its omni-channel capabilities and meet the evolving needs of its customers. The company has significantly upgraded its e-commerce platform and mobile app, which now serve as vital touchpoints in its omni-channel retail strategy.
The enhanced e-commerce platform offers a user-friendly interface with intuitive navigation, making it easier for customers to browse through the wide range of products. It also provides personalized product recommendations based on customers' browsing history and purchase patterns, thereby offering a tailored shopping experience. This not only improves customer engagement but also drives up-sell and cross-sell opportunities.
The mobile app, on the other hand, serves as a personal shopping assistant, providing easy access to product information, customer reviews, and size guides. It also offers features like real-time inventory checks and store locator, adding to the convenience of customers. The app also integrates with the company's loyalty program, allowing customers to earn and redeem points, receive exclusive offers, and get early access to new product releases.
Through the improved e-commerce platform and the mobile app Foot Locker expects to drive digital penetration from 17% as of 2023 to 25% by the end of 2026.
Foot Locker Investor Presentation 2023
CEO Mary Dillon is a Great Fit for Foot Locker
Mary Dillon's appointment as CEO of Foot Locker is a strategic move that brings a wealth of experience and a proven track record to the company. Dillon has a long and successful career in the retail industry, having served as the CEO of Ulta Beauty from 2013 to 2021, where she led the company through a period of significant growth and expansion.
As seen below, she led Ulta Beauty on a 233% rally during her tenure as CEO as compared to a 165% return from the S&P 500. During this period she also grew ULTA’s revenue by almost 3 times.
Google Finance
Foot Locker’s management team appear to be shareholder friendly, this is supported by their tendency to return capital to shareholders via share buybacks and dividends. Over the past several years, management has been aggressively buying back their own stock, where since 2018 shares outstanding have decreased by 25%.
Furthermore, Foot Locker currently offers a dividend yield of 6.09% which makes FL attractive as a dividend play. In terms of the payout ratio, Foot Locker's payout ratio is approximately 61%, calculated by dividing its annual dividend per share of $1.57 by its earnings per share of $2.58. This suggests that Foot Locker is distributing a significant portion of its earnings back to shareholders while still retaining a portion for reinvestment or debt repayment. A payout ratio below 70% is generally considered sustainable and indicates that the company's dividend is well-covered by its earnings.
Financial Performance
As I delve deeper into Foot Locker's financials , it's evident that the company has been navigating through some tough business environments and faced some significant headwinds. The company's revenues of $8.76 billion for financial year 2023 ((FY2023)), while substantial, represent a year-over-year decline of approximately 2.3%. The decline in revenue for Footlocker combined with increased operational costs and supply chain disruptions has seen the company’s margins slide to 5.9% LTM which is far below the typical operating margins the company has experienced over the last 10 years. I do not believe it is all doom and gloom when it comes to Footlocker however as management have made it clear they are dedicated to accelerating growth and reviving margins.
DJTF Investments
As I mentioned before, the company has an impressive track record of returning value to shareholders through share buybacks and dividends and as a result, the financials on a per share basis looks far more favorable for FL. The company has seen consistent book value per share growth, growing from $22.33 in 2019 to $34.96 today representing a CAGR of approximately 8%. The continued growth of Footlocker’s book value per share suggests the company has been successful in increasing its intrinsic value and I believe is a good indication for what overall growth the company can hope to achieve into the future. Earnings per share ((EPS)) on the other hand has been far more volatile, EPS for Foot Locker peaked at $8.61 in 2022 before dropping to $2.62 in the last 12 months. It's important to consider however, that 2022 was a record year for Foot Locker and was likely a cyclical high.
DJTF Investments
On the debt front, I believe Foot Locker is in a stable position and am not concerned about their current debt load. As of the most recent quarter, FL had cash and cash equivalents amounting to $313 million. This is a significant amount and should adequately cover a substantial portion of long-term debt which is currently estimated to be approximately $445 million. Most of the long-term debt held by Foot Locker is not due until 2029 which makes this a very manageable debt load in my opinion.
Foot Locker Q1 Earnings 2023
The company's current ratio, which is a measure of its ability to cover short-term liabilities with short-term assets, stands at 1.57. This is generally considered a healthy ratio, indicating that Foot Locker has more than enough short-term assets to cover its short-term liabilities.
Looking forward, I anticipate that Foot Locker's margins will see a gradual improvement in the upcoming quarters. This is likely to be driven by the company's ongoing efforts to realize operational cost savings and its strategic shift towards a more digital model. The retail industry has been experiencing a significant digital transformation, and Foot Locker's ability to adapt to this trend will be a key factor in improving its margins.
Looking beyond the next 12 months, assuming a return to more favorable macroeconomic conditions, I believe Foot Locker is well-positioned to return to growth. The management team has ambitious yet realistic goals for the future in my opinion which gives me confidence that they will deliver on their long-term targets.
Foot Locker Investor Presentation 2023
Valuation
Foot Locker's FY2023 net income was $342 million. Looking ahead, I conservatively estimate that the net income should grow at a rate of 7% per year over the next five years in line with management’s 5 year outlook. This would result in an estimated intrinsic value of the business of $3.632 billion by 2028. This would imply a 2028 price target of $38.68 per share. From today's share price of $26.27 per share, this would represent a compound annual growth rate ((CAGR)) of 17.5%.
It should be noted that, In the interest of being conservative with my valuation, I have assumed that the outstanding share count for FL remains constant during this period which I believe would be unlikely given the management team's history of aggressively buying back shares.
DJTF Investments
As seen below, when conducting a peer comparison of P/E ratio trends between Foot Locker, Boot Barn Holdings and Nike, of which each are competitors in the footwear industry, it is clear that valuation Foot Locker is trading at a P/E below its peers. While Foot Locker does not have the brand recognition of a business such as Nike, it doesn’t deserve to trade at one third of Nike’s valuation. I also think the opportunity in Foot Locker is better than Boot Barn Holdings due as I believe there to be a greater opportunity in the ‘sneaker’ space due to the mass casualization of sneakers and the rising popularity of performance footwear. It also helps that Foot Locker have a 6%+ dividend yield and an aggressive share buyback program.
Risks
Investing in Foot Locker, like any other investment, comes with its own set of risks. One of the primary risks is the highly competitive nature of the retail industry. Foot Locker operates in a market with numerous competitors, including both brick-and-mortar stores and online retailers. The company's success depends on its ability to differentiate itself from these competitors and attract customers, which is not always guaranteed.
Another risk is the company's dependence on a few key suppliers, such as Nike, which accounted for about 70% of the company's merchandise purchases in recent years. Any disruption in the relationship with these suppliers or changes in their pricing or delivery terms could have a significant impact on Foot Locker's operations.
The company is also exposed to risks related to changes in consumer preferences. The retail industry is highly susceptible to shifts in fashion trends and consumer behavior. If Foot Locker fails to anticipate or respond to these changes, it could result in decreased demand for its products.
Moreover, Foot Locker's international operations expose it to risks related to foreign currency exchange rates and economic conditions in other countries. Economic downturns, political instability, or unfavorable changes in foreign exchange rates in the countries where Foot Locker operates could negatively impact its financial performance. As seen below as of the end of 2022, international sales made up approximately 32% of total revenue , therefore, a strong U.S. dollar could reduce the value of the company's foreign earnings, while a weak U.S. dollar could increase the cost of goods purchased overseas.
Statista
Lastly, like all retailers, Foot Locker faces risks related to inventory management. The company must balance the need to maintain sufficient inventory to meet customer demand against the risk of overstocking items that do not sell as expected.
Conclusion
Foot Locker presents a compelling investment opportunity, driven by a 7% long-term earnings growth forecast. This growth is expected to be fueled by the mass casualization of sneakers and the rising popularity of performance footwear. The company's strategic focus on enhancing its omni-channel capabilities, integrating both offline and online shopping experiences, is another key growth driver. The appointment of Mary Dillon as the new CEO, with her proven track record of success, further strengthens the company's leadership. Based on a Discounted Cash Flow ((DCF)) model, an impressive 17.5% annual return is anticipated over the next five years.
For further details see:
Foot Locker: Harnessing Footwear Trends For Growth And Trading Below Intrinsic Value