by Lawrence Meyers | March 27, 2013 7:00 am
I normally shun retail, but Francesca’s (NASDAQ:FRAN[1]) has my attention for several reasons. The main two are that it has a very intriguing model, and is still early in its growth phase.
To start, Francesca’s sells women’s apparel and jewelry across several hundred stores in the U.S. — but they feel more like independently owned boutiques[2] than some corporate behemoth. The store experience is inviting, with handmade signs and vintage fixtures. Plus, it switches out merchandise five days a week, so customers are more likely to have a “discovery experience” than a mere “shopping experience” and can find that novelty item nobody else carries.
I suspect it is this strategy that is behind the company’s consistently impressive same-stores sales numbers. In its latest earnings report, Francesca’s enjoyed growth of over 9%. In a not-so-hot economy, where most retailers would be thrilled with a 3% to 4% increase, Francesca’s blew that metric away. Plus, that came on top of a nearly 15% increase during the prior year’s period.
Francesca’s strategy of holding half apparel and half accessories is also appealing, as it gives the company flexibility in case it misjudges that fickle apparel audience. Plus, it keeps its stores small — between 1,200 and 1,400 square feet — so that it doesn’t load its stores with too much stuff. This helps make those novelty items scarce, and hedges against a sudden fall-off in business. When you visit the mall next time and see how large many apparel stores are, you’ll start to appreciate this strategy.
The latest earnings report also offered other great metrics. Sales were up 41% vs. inventory, which only increased 32%. I always want to see sales outpacing inventory growth. Plus, gross profit was up 92 basis points to 53%, while gross margins widened as well. Operating profit was up 71% and, as a percentage of net sales, increased a whopping 500 basis points to 28% year-over-year.
The company also continues to manage expenses well, with selling, general and administrative expenses contracting 408 basis points to under 25%. That helped the bottom line we all love come to $14.9 million — 33 cents per share. That’s better than estimates for 30 cents per share and makes for a 74% year-over-year gain.
Francesca’s then raised guidance, with fiscal year 2013 earnings expected to come between $1.27 and $1.30 per share — a 23% to 26% increase over 2012. The company has 360 boutiques, but is aiming for 900 over the next several years.
As with many smaller, fast-growing companies, Francesca’s held a fair amount of debt during its initial expansion phase. Then it was taken public, and the proceeds were used to pay off that debt. Plus, the company generated $30 million in free cash flow during the year and holds roughly the same amount in cash.
While large pieces of the company are owned by several private equity funds — to the tune of some 26% of the float — insiders own some 20% of the shares. I love to see management with huge holdings like this, as it aligns its interests with shareholders, even if the founding CEO retired last year[3]. Heck, there were several insider buys in the $27 range in December. That’s a vote of confidence as well.
Interestingly, the shorts hate this stock. Some 46% of its float is short. That’s an unbelievable number, and may be because the shorts don’t believe in this story.
And I get it; the retail game can be dangerous. But still, I think they are early to the game. I’d keep an eye out for a sudden decline in same-store sales, an earnings miss or warning, or a sizable fall in gross margin before selling. We aren’t there yet … and with the stock still down 25% from its highs, I think the path of least resistance is up.
Based on fiscal 2013 earnings and the current stock price, FRAN is trading right at a 23x multiple, which is right around its growth rate. I purchased the stock at $27 — some 10% below today’s price. I think the stock is a buy at these levels as it continues strong growth, even in the face of a difficult economy.
As of this writing, Lawrence Meyers is long FRAN.
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