Value Find: Eddie Bauer Holdings, Inc.

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A new management team with a back-to-basics strategy, coupled with a beaten-down stock price, could make this small cap retail play an attractive medium-term turnaround opportunity.

The past 12 months have been quite a roller coaster ride for shareholders of outdoor casual sportswear and accessories retailer Eddie Bauer Holdings, Inc. (Nasdaq: EBHI). In February of this year, shareholders of the $209 million market capitalization company rejected a buyout offer at $9.25 a share from two private equity firms. By June, with Eddie Bauer shares touching the $14 level and a newly named CEO at the helm, rejecting this deal looked like a smart move.

However, after weaker-than-expected sales and rising expenses in recent months, Eddie Bauer shares have been punished, wiping away its summer gains and then some. As of this writing, the stock is now trading around the $6 level, near its lowest levels since being spun off in 2005 from its former parent, Spiegel Inc., as part of that company’s Chapter 11 bankruptcy reorganization.

Founded in Seattle, Wash., in 1920, Eddie Bauer has endured a rocky road in recent years, but still retains a solid brand name and retail footprint with 390 apparel and outlet stores throughout the United States and Canada, and a catalog sales and online operation. Revenue for fiscal 2006 topped $1 billion. Veteran retail manager Neil Fiske was named Eddie Bauer’s new CEO in June. Fiske may be unable to turn things around at ailing Eddie Bauer, but he isn’t new to the retail turnaround game. He previously led the successful turnaround of Bath & Body Works, a $2.5 billion in revenue division of Limited Brands, Inc. (NYSE: LTD). Earlier this month, Eddie Bauer also named several other veteran retail executives to fill out its new management team.

Eddie Bauer’s performance so far this year has been disappointing. For the first nine months of this fiscal year through Sept. 29, revenue inched up just 3.2% to $651.9 million. The loss from continuing operations before interest, taxes, depreciation and amortization (EBITDA) over this stretch widened to $18 million from $11.4 million a year ago. Gross margin for the first nine months of the year declined to 31.6% from 32% a year ago. Eddie Bauer blamed the wider loss and slightly lower gross margins on “transitional costs” related to the early stages of its turnaround plan. The company intends to reduce its cost structure by $25 to $30 million in 2008. Eddie Bauer also plans to boost its margins through sourcing and supply chain efficiencies.

Not only is Eddie Bauer struggling operationally, but the company also carries a sizeable debt load, ending last quarter with over $350 million in debt on hand. With $55 million in cash still available under a credit facility, Eddie Bauer seemingly has adequate liquidity, but this leverage has clearly become a source of concern for investors. Insider buying activity of late in the stock, though, suggests Eddie Bauer insiders still see brighter days and a higher stock price ahead. In recent weeks, six different Eddie Bauer insiders, including the firm’s newly named CFO, have scooped up over $340,000 worth of stock on the open market around the low-to-mid $6 level. This follows insiders buying the stock around the $8 to $9 level this past August and September. Over the last 52 weeks, shares have ranged between $5.56 and $14.27.

While Eddie Bauer isn’t currently covered by any Wall Street analysts, the small cap retail name has attracted the attention of a generally savvy group of institutional investors. Top shareholders in the stock include traditional money managers such as Wellington Management, Fidelity Investments and JP Morgan Chase, and hedge fund operators like D.E. Shaw, Third Point and Tiger Consumer Management. Much like Fiske and other insiders, this group seems to believe that a turnaround for Eddie Bauer is in the cards, even if it hasn’t shown up yet in the numbers.
 
Valuation-wise, at a current enterprise value of approximately $550 million, the market is valuing Eddie Bauer at just 0.5 times annual revenue, near the low end of apparel retailer valuations. For comparison, red-hot apparel retailer J. Crew Group, Inc. (NYSE: JCG) trades for over 2 times revenue, while struggling retailer The Gap Inc. (NYSE: GPS) fetches around 1 times revenue. If Fiske & Co. get the turnaround right at Eddie Bauer, “a double” from recent levels is possible for the stock over the next year. On the flipside, this is a highly levered play with management trying to engineer a turnaround in a retail environment that is vulnerable to a further economic slowdown.

Bottom line, Eddie Bauer (EBHI) is a “value find” only worth considering for high-risk, high-reward oriented investors with at least a medium-term outlook. This is not a stock for quick-trigger or lower-risk oriented investors. I would consider adding the stock below the $6 level.

About the Author
Contributing author Matt Ragas is an investment writer and analyst with ten years of experience analyzing small and microcap stocks, with a particular emphasis on value and turnaround situations. Read More

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