Would a Merger Fit Tommy?
Tell us what you think in TOM's Board
individualinvestor.com
Staff Writer: Judith Graham (3/21/00)
Don't be too hard on yourself if you still own Tommy Hilfiger (NYSE: TOM
- Quotes, News, Boards) shares. While it's no secret that the fashion
designer's business is looking rather threadbare these days, Fortuna's
wheel may be quietly spinning in its favor.
It's not exactly a pretty picture: The stock is in the doldrums. Shares
closed at $13 on Monday. Last May, the stock boasted a $41.06 price
tag, and six months ago shares were still north of $30. Tommy hired
Morgan Stanley Dean Witter last month to review ?strategic and financial?
options, including the possibility of an acquisition or a repurchase of
company shares. That confirmed investor suspicions that business was
lagging.
Last week, Tommy was reported to be pursuing these options with plans
to buy rival designer, privately held Calvin Klein Inc. But Thursday, the
Wall Street Journal said Tommy's talks with Calvin stalled after the two
parties couldn't agree on a price. So it's back to the drawing board for
now.
Like this Article?
The upside: The stock is ultra-cheap, creating an attractive buying
opportunity for investors who have faith in Tommy and are willing to
stomach the uncertainty that lies ahead. Skeptics, on the other hand, are
wise to follow their gut instincts to wait this one out-?especially given
Tommy's spotty operating history.
The last year to 18 months have been tough for a designer who was the
ultimate trendsetter as recently as four or five years ago. After shedding
his preppy image to service the big-logo toting urban crowd, Tommy
struck gold. His brand epitomized urban chic.
The company's crowning moment came when rapper Snoop Doggy
Dogg wore a Tommy Hilfiger rugby shirt on Saturday Night Live in 1994.
The surging popularity peaked in a record $847 million in sales in 1998,
but the pattern has faded since then.
Once the Tommy brand, with its trademark red-white-and-blue flag
insignia, gained popularity on the hip-hop scene, suburbanite wannabes
were soon to follow. But that was enough to cause the urban scene that
helped Tommy garner record-busting sales to lose interest.
So Tommy opted for a change of image to boost business by sponsoring
rocker Lenny Kravitz on his Freedom Tour last year. Also joining the
1999 sponsorship line-up were folk-pop artist Jewel, teen pop sensation
Britney Spears and The Rolling Stones on their ?No Security? tour. But
none of these steps could get the company out of its funk.
Perhaps the company's problem was that it suddenly wanted the best of
too many worlds: the urban scene, the teen market with Spears, the 20-
and 30-something crowd with Jewel and Kravitz, and the boomers with
the Stones. But let's face it, cool kids do not want to be seen dressing
like their parents.
In January, Tommy warned the Street that heavy promotional selling
during the holiday season would result in the company's posting no profit
growth for the first time since 1992. The company also estimated it would
take a $65 million charge in the fourth quarter that ends on March 31 as
the result of a cost-cutting program.
The company's sales of men's and women's fashions faltered in the third
quarter, ended December 31, hurt in part by poor differentiation among
age segments, according to analyst Brenda Gall of Merrill Lynch in a
February report. Tommy soon announced plans to close its two flagship
stores in Beverly Hills and London and postpone the launch of its
women's ?dress up? sportswear line in an effort to enhance profitability.
By this time, Tommy had already sought Morgan Stanley's help to come
up with a rescue plan. But it's now mid-March, and the company has yet
to announce a turnaround strategy. It's fairly safe to say this strategy
includes an acquisition, given reports of Tommy's talks with Calvin Klein.
But Klein, which hired Lazard Freres six months ago to conduct a
strategic review, including options for a merger or full or partial sale, is
believed to be asking more than $1 billion for the business.
An agreement was expected to be announced as early as last week, but
Klein's high price tag, which has already put off bidders including Holding
di Partecipazoni Industriali, the Italian conglomerate that owns the Fila
label, may be delaying potential merger proceedings.
Would buying Klein provide relief for Tommy's woes?
Tommy is sitting on $400 million or roughly $4.22 a share in cash, which
is ample fuel for an acquisition. However, since the stock is weak ?
trading at just five times earnings ? Tommy would likely have to borrow in
order to buy Klein. And given retail's fickle nature, banks might hesitate to
put up $600 million.
A share repurchase is another option, but Tommy management has
indicated that the decision to hold off on pursuing a share repurchase
was driven by a desire to fully evaluate its options. At press time, the
company had not responded to a question concerning its strategy.
Analysts agree that an acquisition is Tommy's best bet, but many think
Calvin Klein is too big a fish to swallow.
?I think making an acquisition is important because the brand has relied
on a coolness factor and that coolness factor has been jeopardized by
being over-distributed,? says analyst Joseph Teklits of Ferris Baker
Watts. ?But that doesn't necessarily mean buying Calvin Klein would be
the smartest thing. It might be biting off more than the company can chew
at this point.?
Given that Tommy is still dealing with a number of issues, and that Calvin
Klein is confronting some similar problems, particularly in terms of
branding, a marriage of the two might be difficult, Teklits says. Instead,
he says, Tommy would be better off paying a price it can afford to for a
smaller brand, much like Liz Claiborne did with Lucky Brands Dungarees
and Ralph Lauren did with Club Monaco.
In fact, Teklits says an acquisition of Calvin Klein might hurt efforts to
restore investor confidence. He'd rather see the company repurchase
shares.
As a last resort, Tommy might also consider taking the business private,
likely under the guidance of a leveraged buyout firm. But chances are the
company will make an acquisition before reaching such a critical point.
The uncertainty leaves the Street waiting for a clear sign of Tommy's
plans for renewal. After last fall's Tommy Jeans ad campaign proved a
marketing failure, the company desperately needs this spring's campaign
to turn some heads. The campaign marks a return to Tommy's
Americana roots and offers, but the campaign's full impact may be hard
to judge until the company has entered fiscal 2001, which begins with the
June 30 quarter.
But is it time to buy? While the stock is cheap, there's still plenty of
uncertainty about the earnings projections. For 2001, the company is
expected to generate bottom line growth of 10% to 15% on a revenue
increase of 5% to 10%, which, on the surface, makes the stock look
cheap. But the company has already warned that it would miss Street
forecasts in March and it's scheduled to take a one-time charge of $65
million for cost-cutting. Investors who buy now may be playing with fire.
Teklits maintains a ?hold? rating on the stock, and says it's too early to
say whether Tommy's current stock price presents a buying opportunity.
Analyst Noelle Grainger of J. P Morgan concurs, citing the company's
difficult earnings comparisons and the lack of evidence to gauge the
success or failure of new initiatives until fall 2000 in a recent report.
Bottom Line:
For the near-term, the stock might react to speculation of a
potential acquisition, but depending on the candidate, the
pendulum could swing either way. For the long-term, until the
company takes a firm step either in the direction of a share
buyback or an acquisition, investors are best advised to hold
back. |
