Hanesbrands: Headwinds Won't Last, Shares Cheap
The narrow-moat firm's profitability challenges are transitory, we think its intangible asset remains strong.
Although fourth-quarter operating profit faced a combination of short-term challenges, multiple data points (including e-commerce and global sales) reinforced our belief that narrow-moat Hanesbrands (HBI) is maintaining market share and has the capacity for long-term margin expansion. Furthermore, with guidance for fiscal 2018 (calling for revenue of $6.72 billion-$6.82 billion and adjusted operating profit of $950 million-985 million) tracking slightly ahead of our current estimates ($6.5 billion in revenue and $931 million in adjusted operating income), we see little change to our $32 fair value estimate outside of the time value of money and the impact of U.S. tax reform, and we view shares as undervalued. We still believe Hanesbrands can achieve low-single-digit average annual revenue growth over the next five years and adjusted operating margin expansion from roughly 14% to 16% by fiscal 2021. Although the stock traded down, we view profitability headwinds as transitory and believe the brand intangible asset remains strong.
Fourth-quarter profitability levels were disappointing, but we view these as short-term in nature. Adjusted operating margin for fiscal 2017 came in at 14.2% versus our 14.4% estimate and 15.2% in the prior year. We attribute this to higher distribution expenses, additional marketing investments as well as revenue mix. On the distribution expense front, we think this headwind will quickly ease. Strong demand for Champion and the volume of late-quarter orders drove higher distribution costs, which management will address. Furthermore, the mix impact resulted from a sales shortfall in the higher-margin intimates business, which management is currently attempting to right. We expect increased marketing spend to remain a headwind into 2018, but we view this as wise, given the resulting organic growth achieved in the quarter, and given that this expense is essential for protecting the brand intangible asset.
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Bridget Weishaar does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.