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The Daily Trouble - A review of a company whose stock price has been cut in half within the last year.
Jul 28, 1998
Gymboree Corp.
(Nasdaq:GYMB - news)
Phone: 650-696-7540
Website: gymboree.co m
Price (7/27/98): $13 1/2
HOW DID IT FIND TROUBLE? Related Quotes
The giant building blocks at children's clothing retailer Gymboree have been knocked down over the last seven months. With the dust settling, the company's stock has changed shape, too, from roller coaster to slide. Meanwhile, investors are off sucking their thumbs to keep from crying.
Shrinking profit margins and rising inventories have caused the recent troubles. Though store expansion assured 23% revenue growth last year, same-store sales actually fell 2%. Gross margins also dropped from 45.9% in FY96 to 44.4% last year, sinking net margins from 10.5% to 9.4%. Such pressure on gross margins was somewhat unexpected given that weak Asian currencies should have reduced Gymboree's manufacturing expenses, but weak demand pressured selling prices and caused inventories to back up.
These problems caused April quarter net margins to drop to just 4% from 10.1% in the year-ago period despite 21% higher sales. Earnings per share were halved from the first quarter of '97 to just $0.17 a share, six cents shy of estimates.
These disappointing numbers have led major stockholders such as Fidelity to trim their Gymboree stakes. They've also forced the company to hold a fire sale to move excess inventories, promising still lower profits ahead.
BUSINESS DESCRIPTION
Based in Burlingame, California, Gymboree is a mall-based specialty retailer that designs, manufactures, and sells colorful and stylish apparel and accessories for children from birth to seven years of age. It operates 480 stores, with 453 in the U.S., the rest split between Canada and Europe.
The company also has 12 company-owned and 390 franchised locations offering directed parent-child play programs. Although they help promote the Gymboree brand, the play center programs provided less than 1% of FY97 operating income.
Gymboree opened 82 new stores in the U.S. last year and plans to add 80 to 100 new U.S. stores in 1998 and 18 to 27 new international locations. It also has plans to launch a new "Kid Cool" retail concept for kids ages 7 to 12.
Competitors include GapKids, Kids 'R' Us, and yesterday's Double The Children's Place (Nasdaq:PLCE - news) . Insiders own just 3.7% of the stock, with large stakes held by Fidelity, Capital Group's SmallCap World Fund, and T. Rowe Price.
FINANCIAL FACTS
Income Statement
12-month sales: $391.3 million
12-month income: $30.7 million
12-month EPS: $1.24
Profit Margin: 7.9%
Market Cap: $327.2 million
Balance Sheet
Cash: $30 million
Current Assets: $119.1 million
Current Liabilities: $51 million
Long-term Debt: $24.2 million
Ratios
Price-to-earnings: 10.9
Price-to-sales: 0.84
HOW COULD YOU HAVE SEEN IT COMING?
While one quarter's results don't necessarily signal a trend, they often do in light of all the information available. When Gymboree set its 52-week high of $30 7/8 a share back in December, the company was about to report third quarter results that beat estimates by a penny. But comparable store sales were up just 1% for the quarter and for the first nine months of the year. Gross margins had been running lower year-over-year and remained low, at just 45.4% versus 47.5% in the third quarter of '96.
Against this backdrop, the 32.6% jump in inventories over the third quarter of '96 was troubling given that sales were up just 21.9% for the year and 19% for the quarter. The combination of falling gross margins and inventories rising faster than sales suggested a competitive pricing environment where sales were weaker than the company expected. If the inventory didn't move, discounts were on the way.
The market immediately reacted to that signal. And indeed, fourth quarter results announced early this year showed that inventories had bloated to $75.3 million by the end of January, up 54% versus the year-ago period. Gross margins slid further in the fourth quarter, forcing Gymboree to miss estimates by three cents per share.
First quarter results showed that the inventory situation remained bad, with the total of $74.7 million now 104% higher than in the year-ago period despite slow sales growth. No wonder CFO Mary Shepard resigned.
The mad discounting that occurred in late June, then, was the almost inevitable result of deteriorating conditions investors could have spotted at least six months earlier.
WHERE TO FROM HERE?
Same-store sales for June rose an astonishing 65% thanks to the fire sale, but that's not exactly great news. While it should resolve some of the inventory issues, it will adversely impact second quarter margins, according to CEO Gary White. The extent of that impact is currently unknown.
Still, a second quarter loss now seems likely. That would jeopardize the consensus FY98 EPS estimate of $1.30 per share and probably the lowball number of $1.10. Yet assuming the first half is nearly a wash and that Gymboree can do as well in the next six months as it did in the latter half of '97, FY98 earnings might be in the $0.90 to $1.00 a share range.
Long-term growth seems likely to be closer to the 17% compound annual rate seen over the last three fiscal years rather than the 20% projected by analysts. Still, if these recent troubles represent a one-time blip, the stock might now prove a value. Gymboree has a well-known brand and average net margins above 10% over the last five years. Those facts usually translate into a price-to-sales ratio over two, while Gymboree's is currently less that one. Gymboree is also opening a ton of new stores, most of which achieve store level profitability within the first quarter of operations.
On the other hand, same-store sales have been weak for a while, with sales per square foot and sales per average store declining in each of the last three fiscal years. The company has also seen a number of management changes this year, suggesting more short-term turmoil. I'd wait for second quarter results to get a better handle on recent developments. Is the inventory down enough? How bad were earnings? What's the second half look like? In the meantime, Fools might want to take their kids shopping to get a first hand feel for this retailer's future.
-- Louis Corrigan
(TMFSeymor@aol.com)
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