2023-07-13 07:41:25 ET
Summary
- Gildan is a leading global manufacturer of apparel products. Revenue growth has been good and is forecast to continue, driven by industry strength.
- The Company has deep expertise and a strong brand, allowing the business to remain a leader in the production of affordable "blanks".
- Margins are extremely attractive, with scope for improvement as inflationary pressures subside.
- Relative to peers, GIL has weak growth but superior margins. This does not look wholly priced in.
Investment thesis
Our current investment thesis is:
- Gildan is an attractive business due to its high margins and sustainable growth trajectory. We believe continued sustainable growth should be achieved.
- The company lacks the ability to achieve high growth like other apparel businesses but makes up for this with margins.
- Gildan is attractively priced relative to its peers and historical average, implying upside.
Company description
Gildan ( GIL ) is a leading manufacturer and marketer of apparel products, including T-shirts, activewear, socks, and underwear. The company operates globally and serves various customer segments, including wholesalers, screen printers, and retailers.
Share price
Gildan's share price has performed respectably in the last decade, although underperforms the market. The company has developed well, although has faced increased competition and mild growth.
Financial analysis
Gildan financial performance (Capital IQ)
Presented above is Gildan's financial performance for the last decade.
Revenue & Commercial Factors
Gildan's revenue has grown at a CAGR of 4% during the last 10 years, with relatively volatile growth YoY. This is a reflection of the inability to achieve consistent growth.
Business Model
Gildan owns and operates vertically integrated manufacturing facilities, enabling control over the entire production process, from yarn spinning to finished garment assembly. Gildan primarily produces basic apparel ("blanks"), although also manufactures products for lifestyle brands under its own brands. Gildan's products are sold to brands, wholesale distributors, screen printers, and embellishers globally, acting as a production specialist for basics and also products that can be easily personalized.
Gildan is a global business, generating revenue across three key geographies. This said, the vast majority of its revenue is generated in the US, reducing any diversification benefits.
The company offers a wide range of apparel products (across several sub-brands), catering to different market segments and customer preferences. Further, Gildan leverages a large distribution network, including wholesale channels, printwear channels, e-commerce platforms, and retail partnerships. These two factors combined represent a clear value proposition to clients, providing scale, flexibility, and global reach. This is critical for winning larger contracts, which are generally more lucrative due to the reduced volatility of demand. Currently, Gildan generates 47.4% of its revenue from 3 of these large contracts. This would be highly concerning for most businesses, as the level of concentration risk leaves the business susceptible to competitive actions or customer weakness. We are less concerned with Gildan as its products are basics in the affordable segment, reducing the volatility of demand from the end user.
Gildan maintains a cost-effective production model, combining scale economies, advanced manufacturing technologies, and strategic sourcing to optimize its cost structure. This allows the business to be attractive to its customers, through competitive pricing, while still generating attractive profits for itself.
Given the nature of Gildan, the company is not positioned to benefit from hype or trends, thus its growth may lag behind branded peers. However, as a low-cost producer, the business should so a flatter revenue trajectory, as consistent demand for clothing keeps the business on a positive trajectory.
Competitive Positioning
Our view is that Gildan has one key competitive advantage and two lesser factors.
Gildan's vertical integration, which provides supply chain control and flexibility to demand, in conjunction with its extensive manufacturing capabilities. Customers are looking for low-cost production at a certain quality, and Gildan is able to deliver this consistently at scale.
Although customers are not necessarily buying Gildan's products for its brand, Gildan has established itself as a trusted supplier, with a reputation for quality and value. This supports the company's ability to win new customer contracts.
Finally, Gildan prioritizes sustainable practices, including responsible sourcing, water and energy conservation, and social and environmental initiatives. For a low-cost, high-volume manufacturer, this is not a normal characteristic. For this reason, the development of its sustainability practices represents value provided to its customers, as consumers increasingly value the sustainability record of the products they purchase.
Clothing Industry
Competition in the affordable clothing segment is based primarily on quality and pricing. Gildan faces competition from apparel manufacturers and brands, including Hanesbrands ( HBI ), Fruit of the Loom, and Columbia ( COLM ), as well as Nike ( NKE ), adidas ( OTCQX:ADDYY ), and Under Armour ( UA ) to a lesser extent.
There is an increasing consumer preference for activewear, as individuals become more self-conscious of body image and health. In conjunction with this, consumers are also demanding athleisure apparel, providing the benefits of activewear, alongside the flexibility to be worn casually. This should support Gildan's growth
A key threat to the business is the globalization of supply chains. Despite the impact of Covid-19, businesses are increasingly demanding flexible supply chains based in countries with low operational costs. Gildan operates its yarn-spinning facilities in the US, as well as knitting and assembly in Central America, the Caribbean, and Bangladesh. The use of Caribbean and Central American production facilities is a go-to option for US producers, due to their competitive pricing and proximity . This allows Gildan to compete against the other global producers who primarily utilize China, Bangladesh, Vietnam, etc.
The rise of e-commerce platforms and changing consumer shopping behaviors represent a key development in the apparel industry. This has significantly increased competition, as a substantially larger number of suppliers are able to access customers globally. We believe this is the second of the key threats Gildan has faced, impacting its ability to achieve consistent growth.
Margins
Gildan's margins have generally remained flat over the historical period, although has faced some over and underperformance throughout.
Margin slippage in the most recent period is a reflection of inflationary pressures, contributing to difficulties with passing on cost increases to customers. In the most recent quarter, Gildan experienced a 3.2% decline in EBITDA-M QoQ, implying continued weakness. Given inflation is beginning to subside, we believe it is likely Gildan can improve in the coming quarters.
Balance sheet & Cash Flows
Gildan's inventory turnover has remained in line with its pre-Covid level, implying strong management of stock despite the uncertain levels of demand. In the most recent quarter, sales declined (9.3)% without impacting this level. This represents successive quarters of negative growth, implying continued weakness in the face of economic conditions, as wholesale purchases soften.
Cash flows have been highly volatile and FCF-M has declined to 0% in the most recent period. This is due to a spike in accounts receivables and accounts payable, as customers delay payments while Gildan continues to service its obligations.
Gildan has managed its capital allocation well. The company is moderately financed, has conducted M&A where attractive opportunities have presented themselves, and excess capital has been returned to shareholders.
Outlook
Presented above is Wall Street's consensus view on the coming 5 years.
Analysts are forecasting a continuation of the mild growth rate achieved thus far, with an average rate of 3%. Given the normalized level achieved historically, this looks reasonable, as we have not seen any material value driver beyond this.
Margins are expected to remain in line with the FY22 level, an assessment we concur with. The current slippage is due to macro factors that should subside.
Industry analysis
Apparel industry (Seeking Alpha)
Presented above is a comparison of Gildan's growth and profitability to the average of its industry, as defined by Seeking Alpha (33 companies).
From a growth perspective, Gildan underperforms the industry. The company's mild growth in recent years, as well as the recent decline, is judged to be an underperformance. This is expected as the business was not positioned well to partake in the Covid-19 bump.
Gildan noticeably outperforms on margins, however, reflecting its strong operational capabilities and pricing power in the market. Given further improvement is ahead, the delta to its peers will only widen.
Gildan's inability to partake in outsized growth is a concern, however, its strong profitability offsets this. Usually, we favor a healthy premium where profitability is superior due to the maturity of the industry. In the case of Gildan, we would suggest a small premium is justified, as the upside potential is limited.
Valuation
Gildan is currently trading at 10x LTM EBITDA and 9x NTM EBITDA. This is a discount to its historical average.
Given the continued volatility of financial performance and the decline in the most recent quarter, we believe a discount to its historical average is justified. This said, the size of the discount looks far too high, as we would suggest 10-15%.
Gildan is also trading at a discount to the industry average, despite its superior profitability. As mentioned previously, we believe a small premium is justifiable, implying upside of 14-20%.
Given the two valuations suggest a similar conclusion, we believe Gildan is undervalued.
Key risks with our thesis
The risk to our current thesis, in addition to its customer concentration, is the near-term trajectory. With quarterly sales and margins down, there is a risk that this continues further in FY23. Analysts are forecasting 1.5% growth in FY23, which implies an improvement is ahead, but this is uncertain.
Final thoughts
Gildan is a well-positioned business, with several large customers, a strong supply chain, and a highly-regarded brand. We believe the business will continue its current growth trajectory, with some margin improvement likely.
Gildan looks attractively valued relative to its peers and historical average.
For further details see:
Gildan Activewear: A Journey Of Market Dominance