A consumer goods growth stock to buy

Aritzia Inc. is an integrated design house of exclusive fashion brands. It designs apparel and accessories for its collection of exclusive brands and sells them under the Aritzia banner.

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Women’s fashions retail chain Aritzia is deserving of a premium valuation, says Canaccord Genuity analyst.

While news headlines fixate on shoppers taking more of their business online, securities analyst Derek Dley points to one bargain stock investors can still find at the mall, a Canadian retailer lately overshadowed by its peers.

Based in Toronto, Mr. Dley is head of research at Canaccord Genuity. He highlights consumer goods stock Aritzia Inc. (TSX—ATZ) as his “top pick” or “best buy” among consumer goods stocks. Since the stock took a relative drubbing last year, this one could be its time to shine, he argues.

Aritzia is a women’s clothing retailer headquartered in Vancouver generally pitched at younger customers. It mainly sells in-house brands, which include Wilfred, TNA, and Babaton. The company first offered its stock for public sale in October 2016. Along with more than 60 stores in Canada, it operates more than 20 locations in the United States, including a New York City flagship.

Same-store sales growth continues

The analyst says: “Aritzia underperformed the broader consumer discretionary index in 2019, increasing seven per cent . . . versus the index at 17 per cent.

“We believe 2020 will be a banner year for Aritzia with continued strength in same-store sales, margin expansion, and the introduction of new long-term targets midway through the year.”

Elaborating on his reasons for recommending Aritzia, Mr. Dley points out that the company has delivered no fewer than 21 consecutive quarters of same-store sales growth.

“Notably, on a two-year stacked basis, same-store sales growth has averaged nearly 20 per cent over the last four quarters, putting the company’s organic growth performance among the industry leaders.

“With continued growth in e-commerce penetration, and growing brand awareness in the United States, we expect the company to continue to drive robust same-store sales growth throughout 2020,” says the analyst.

Number of stores also growing

Meanwhile, Aritzia lays claim to a long runway for growing its store network. The company has added 19 stores since its IPO three years ago, and is targeting an additional five new stores in 2020.

Mr. Dley says: “We forecast the company ending 2020 with 96 locations; however, we believe Aritzia could easily operate up to 200 stores within North America, while remaining selective and procuring only class ‘A’ locations.

“The company has an average payback target (the time it takes sales to equal the initial cost of setting up a business) of two years for new store openings, and has exceeded this target since its IPO with average payback periods approaching 18 months.

“This in turn has led to robust ROE (return on equity) and ROIC (return on invested capital) generation of 25.3 per cent and 26.6 per cent, respectively.”

Revenue, EDITDA growth beat IPO forecasts

The analyst outlines his reasoning for assuming the company will revise its strategic financial targets as well.

When Aritzia made its IPO, the company had set aggressive five-year growth targets, among them increasing revenue at a 15 per cent to 17 per cent compound annual growth rate (CAGR) and growing earnings before interest, taxes, depreciation and amortization (EBITDA) by between 18 per cent and 21 per cent per year.

“Thus far, the company has exceeded these targets, with 17 per cent annual revenue growth and 24 per cent annual EBITDA growth over the first three years of the plan.

“Looking ahead to 2020, we believe the company will provide its next three-to-five-year growth targets, and believe this will be a positive catalyst for the share price,” says Mr. Dley.

CEO and founder owns 22 per cent

Despite the strong performance, the company’s share price has remained challenged over the last three years, he notes. “We believe this is due in part to the perceived overhang of its previous private equity partner, Berkshire, selling its position.”

In March 2019, Berkshire Partners LLC of Boston sold its remaining stake in Aritzia for $330 million, which Mr. Dley argues, has eliminated any concerns about large secondary offerings in the future. “Meanwhile, chief executive officer and founder Brian Hill continues to own 22 per cent of the shares outstanding, leaving management well aligned with shareholders,” he adds.

The analyst set a target price of $24 a share for Aritzia. He calculated that target based on a multiple of 12.6 on his 2021 EBITDA forecast of $215 million. By comparison, its consumer peers trade at an average of 14.3 times their respective EV/EBITDA (enterprise value-to-EBITDA).

“Aritzia is deserving of a premium valuation, yet it currently trades at a discount to peers at 10 times EV/EBITDA,” says the analyst.

This is an edited version of an article that was originally published for subscribers in the January 3, 2020, issue of Investor’s Digest of Canada. You can profit from the award-winning advice subscribers receive regularly in Investor’s Digest of Canada.

Investor’s Digest of Canada, MPL Communications Inc.
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