|Shares Out. (in M):||15||P/E||0||0|
|Market Cap (in $M):||75||P/FCF||0||0|
|Net Debt (in $M):||0||EBIT||0||0|
Build-A-Bear is a St. Louis, Missouri-based interactive retail store, which lets customers design and build their own teddy bears and other stuffed animals. The company operates 373 corporately-managed locations, including 313 in North America and 60 in Europe and Asia, and supports a franchise base of 97 additional stores in 11 countries.
Like many mall-based retailers, Build-A-Bear suffered a difficult year in 2018. The company’s revenue dropped 4.9% overall (adj. for revenue recognition changes and an extra week in 2017)—with a low single-digit decline in its North American business and a double-digit decline in its European business. While the business has been structurally challenged by declining mall traffic, which has sunk almost 50% over the past 6 years, Build-A-Bear was particularly hurt in 2018 by two incremental, powerful headwinds: an unusually bare slate of family-friendly movies and the bankruptcy and subsequent liquidation of Toys“R”Us, resulting in an optically deteriorating financial trajectory, lowered sentiment and depressed sentiment.
We believe the business is in a structurally advantageous position as a fundamentally differentiated concept that serves as a traffic driver to brick & mortar retail with highly attractive ROIC. We believe there are near-term, medium-term and long-term drivers that are poised to positively inflect fundamentals and accelerate EBITDA & FCF generation which the market will appreciate in the coming quarter(s), as the following elements of the business become evident to the market:
1. Fundamentals are improving and will benefit from lapping i) an uncharacteristically weak slate of family-centric licensed move properties which made organic 2018 performance artificially weak and sets a low base for ’19 growth, and ii) Toys R Us’ liquidation process.
2. Margins will expand as the company focuses on re-negotiating leases and re-locating current units, above and beyond what operational leverage implies from revenue acceleration
3. Walmart relationship will expand as the retailers establish a more meaningful relationship
4. International franchise growth is set to inflect meaningfully higher with 40 units to open in India/China
Fundamentals are improving and will benefit from lapping i) an uncharacteristically weak slate of family-centric licensed move properties which made organic 2018 performance artificially weak and sets a low base for ’19 growth, and ii) Toys R Us’ liquidation process.
Two catalysts will bolster Build-A-Bear’s revenue in the short-term: (1) a superior slate of family-friendly movies and (2) the final closure of Toy“R”Us. We’ll consider each catalyst in depth.
First, the coming year promises a crowded slate of highly-anticipated family-friendly movies, especially compared with last year’s rather empty slate (partly the result of Disney’s decision to push the release-dates of two highly-anticipated family-friendly films from 2018 to 2019). This development will help drive Build-A-Bear’s revenue in 2019—transforming what was a serious headwind into a powerful tailwind. According to our proprietary data, in the past quarter alone, products associated with the latest ‘How to Train Your Dragon’ film have already sold extremely well. That early success portends a lucrative year for Build-A-Bear’s licensed-product sales. In the coming months, we expect Build-A-Bear to profit handsomely from ‘Detective Pikachu’ (May), ‘Aladdin’ (May), Toy Story 4 (June), Cars 4 (June), Lion King (July), Frozen 2 (November), and ‘Star Wars: Episode IX’ (December).
We think the company’s underwhelming performance in 2018 had much to do with the year’s unusually bare slate of family-friendly films. In fact, we estimate that $16M (or roughly 55%) of Build-A-Bear’s overall revenue decline in 2018 can blamed on this anomaly. A fuller slate of popular family-friendly films will amplify Build-A-Bear’s sales in a number of different ways. For one, successful films drive traffic to Build-A-Bear stores. In North America, 85% of Build-A-Bear’s retail stores are located within two miles of a movie theater—meaning that film studios’ marketing efforts, aimed mainly at luring moviegoers to movie theaters, come with a secondary effect: drawing customers to Build-A-Bear. (This effect lowers Build-A-Bear’s customer acquisition costs, too.) What’s more, licensed-product sales earn 20% more dollars-per-transaction than do sales of non-licensed products, as licensed products typically sell at higher prices and combine with optional add-on items. So family-friendly films both increase traffic to Build-A-Bear stores and inflate the average price-per-transaction at Build-A-Bear stores. As a result, when 2019 ushers in a long list of family-friendly blockbusters, the company stands to benefit enormously.
In 2018, Build-A-Bear’s revenue from the sale of licensed products plummeted to its lowest level since 2013, while Build-A-Bear’s revenue from the sale of non-licensed products soared to its highest level since 2014—further evidence that Build-A-Bear’s business was severely disrupted by the poor showing of family-friendly films in 2018. That disruption will be corrected in 2019. For reasons we just highlighted, it’s difficult to overestimate the importance of that correction to Build-A-Bear’s bottom line. A brief historical example can provide useful context here. In 2014, the release of Disney’s animated blockbuster ‘Frozen’ drove Build-A-Bear’s same-store sales growth from [-2%] to [+9%]. On the extremely conservative assumption that 2019 sees the release of just 3 films which prove only half as a successful as the original ‘Frozen’ did, we should expect Build-A-Bear’s same-store sales to jump at least [15%].
Finally, it’s worth noting that Build-A-Bear’s particularly poor showing in the United Kingdom in 2018 played a major role in depressing the company’s overall performance last year. Movie-related products have historically outperformed in the UK. That fact helps explain why Build-A-Bear’s UK segment fared so poorly in the last year. More importantly, though, it also indicates that Build-A-Bear’s UK segment should undergo a robust recovery in 2019, with the proliferation of good family-friendly movies.)
Second, in 2019, Build-A-Bear will recuperate from the major disruption imposed on it by the shuttering of Toys“R”Us in 2018—and go on to capture market share left open by the defunct toy giant. Almost 75% of Build-A-Bear stores are located within five miles of a former Toys“R”Us. In 2018, Toys“R”Us liquidation sales hurt Build-A-Bear’s business: Build-A-Bear stores located near Toys“R”Us liquidations saw their sales drop in the aftermath of liquidation sales. On the assumption that Toys“R”Us liquidations reduced store sales by 10% in 2018, Build-A-Bear should re-capture $50k per store, or roughly $25M in total sales, in 2019.
That’s not the only benefit Build-A-Bear will reap from Toys“R”Us in 2019, though. The demise of Toys“R”Us also creates an $8 billion gap in the toy market, which Build-A-Bear can capitalize on in several ways. Consider one. While Toys“R”Us had a large birthday-celebration business, birthday celebrations are also the top-ranked occasion that brings customers to Build-A-Bear stores. (Indeed, almost a third of Build-A-Bear’s in-store revenue is birthday-related.) We thus expect the fall of Toys“R”Us to provide a substantial boon to Build-A-Bear’s own birthday-celebration segment, tangibly boosting in-store revenue.
Margins will expand as the company focuses on re-negotiating leases and re-locating current units, above and beyond what operational leverage implies from revenue acceleration.
Astute portfolio management has shifted stores towards short-term lease extensions, pre-negotiated rent reductions and % of sale arrangements. Through lease management, over 60% of corporate leases expire or have options within the next 3 years, while 0% of the Company’s store base is up for lease renewal this year alone. Management has acknowledged a meaningful opportunity to re-negotiate economics with landlords and a willingness to shutter stores when they are not yielding an acceptable returns on capital. Today, approximately 1/3rd of retail locations are on ‘percentage of sales’ lease terms; the on-going lease negotiations offer the ability to transition a larger percentage of the Company’s locations to a variable rent arrangement providing a natural hedge to profitability. BBW has already demonstrated its ability to favorably navigate lease arrangements as occupancy costs were down in 2018 despite a higher store count. The Company paid ~$45M in rent expense in 2018; in 2019, ~$20M is up for renewal (40%) and if BBW can negotiate a reduction of 10% it would contribute an incremental $2M in EBITDA with retail sales held constant (sales growth guidance of MSD% to HSD%).
Management communicated its expectation to close 30 stores over the next 2-years (50% from North America / 50% from Europe). Based upon our follow up calls, we believe they are posturing to extract better economics 4from their landlords. Today, 95% of the North American stores are profitable and the Company has demonstrated ability to transfer sales from shuttered locations to nearby units. The Company’s global store portfolio continues to diversify to increase accessibility and to facilitate a migration away from legacy mall-based locations.
In order to extract leverage over its landlords, BBW has proactively experimented for proof of concept with alternative locations including theme parks, tourist attractions, and retail partners (e.g. Cabelas, Walmart, etc.). Demonstrated success in implementing the Build-a-Bear experience in off-mall locations now provides negotiating leverage as BBW can transfer sales from legacy mall-based locations to locations with expanding traffic counts and more attractive unit economics.
Based upon our work, we believe that in the coming years, BBW will establish a more meaningful store-in-store relationship with Walmart.
In October 2018, Build-A-Bear debuted a promising pilot program, opening six full-service stand-alone stores inside select Walmart locations. The holiday season brought tremendous success to the experiment, generating through-the-roof sales at Build-A-Bear’s new Walmart locations. For its part, Walmart was elated. The mega-retailer has long been searching for ways to magnify traffic, and partnering with traffic-driving retailers has recently emerged as a promising strategy. (Indeed, Walmart’s new partnerships with PetIQ and National Vision underscore its commitment to this idea.) The rapid success of the pilot prompted Build-A-Bear to develop plans for expansion, which Walmart embraced with great enthusiasm. In the coming few years, we expect Build-A-Bear’s partnership with Walmart to grow into an important, and very lucrative, alternative to its mall-based retail model. In the next year alone, Build-A-Bear intends to open roughly 20 more stores in Walmart supercenters—a stunning growth rate of 250%. We think Build-A-Bear can continue to build 20-30 such stores each year, boosting annual EBITDA by at least $3M. In fact, we think that estimate is conservative. If each new Walmart location generates $650k, given a 15% contribution margin at the store-level, each new unit will yield approximately $100k in cash. Just from its Walmart expansion alone, Build-A-Bear’s EBITDA can grow at least $15M within the next five years.
Build-A-Bear’s partnership with Walmart achieves a lot more than higher revenue, though. Indeed, it endows Build-A-Bear with considerable negotiating power, which the company can wield in upcoming lease renegotiations with landlords. As we just emphasized, in the last few years, Build-A-Bear has adroitly managed its portfolio of mall-store leases. Within the next year, 40% of its mall-store leases come up for renewal; within the next three years, 60% percent of such leases will expire (or can be exited). Build-A-Bear’s flexibility on this front will now combine with its capacity to relocate its stores to Walmart supercenters, downsize to kiosk-based mall stores, or join up with other large retailers. (Build-A-Bear has also begun partnering with the indoor water-park chain, Great Wolf Lodge, and Bass Pro’s hunting-equipment seller, Cabela’s.) This kind of optionality gives the company tremendous leverage. In recent weeks, we have spoken with leadership at several of the top mall-owing REITs in the United States. A clear consensus emerged: Major commercial landlords recognize the threat posed by Build-A-Bear’s impending leverage—and for good reason. In fact, in their conversations with us, landlords have already expressed their willingness to grant Build-A-Bear rent reductions. In the next few years, then, Build-A-Bear’s leverage will translate into substantial cost-saving gains.
BBW’s international franchising efforts offer a long runway for growth, most importantly within the Indian and Chinese market (8 today set to grow to 40 in 2019)
Whilst international franchise growth admittedly stagnated in 2018, importantly BBW added a new franchise agreement in India, with Lulu Group (a UAE based multinational conglomerate company that operates supermarkets and retailers). To date, BBW has opened 3 locations in India and 8 locations in China and will expand to 40 stores in these regions by the end 2019 (on a current total international franchise base of 97). The Company delivered $3.7M in international franchise fees in 2018 but with green shoots in the world’s two most populous and fastest growing nations that number will be meaningfully higher in 2019 (30% to 40% unit growth from India and China alone). In today’s market, franchise revenue streams are valued alone at 10-15x EBITDA. The immediate benefit and future growth potential of a recurring high margin income stream generated from growing the international franchise base is effectively a free option at this share price. Over the longer term, we believe BBW’s international franchising efforts offer a long runway for growth, most importantly within the Indian and Chinese market (8 today set to grow to 40 in 2019). Today, international franchising represents $3.7M of high margin royalty revenue. With the contribution of 32 incremental franchises in 2019, we expect 2019 international franchising Revenue of $4.5M and EBITDA of $3.5M; if you were to value it at a true licensed comp multiple of 10.0x EBITDA, it creates the rest of the business at ~1.8x 2019E EBITDA.
Note as per usual we're having difficulty pasting valution and price target sections into our submission. We will follow-up with our thoughts on valuation and price target in a follow up restponse to this posting. The punchline however is that we believe Build-A-Bear is worth at least $10 per share, approximately 70% more than its current price. Build-A-Bear trades at 4.4x its Street 2019 EBITDA of $16.3M and 3x our own base-case 2019 EBITDA of $24.1M. If either or thesis on Walmart of license titles takes hold in any material way, the stock could be a double or even a triple over the next few years.
In our view, there is no reason for BBW to be trading at
We believe 1Q 2019 will serve as a positive catalyst for Build-a-Bear. The quarter will demonstrate the continued positive momentum in the underlying business (as mentioned above) and more importantly, provide a potential disclosure of a more formal relationship with Walmart, as Build-a-Bear accelerates its store-in-store roll out. The option value inherently attributed to a relationship with Walmart is alone worth more than today’s equity value – we believe investors are missing the strategic importance and potential of this relationship.
On March 26th, Kanen Wealth Management disclosed a 9.7% activist stake via a 13D filing disclosure – we believe this will further accelerate the catalyst path, as an engaged shareholder will now be looking to engage the board in to more directly create shareholder value.
2018 undoubtedly presented BBW with a number of unique and transitory challenges. We believe the current dislocation provides the opportunity to buy a differentiated retail concept at a price suggestive of imminent demise. We view the story as providing multiple ways to win combined with optionality this is not at all priced in. The underlying fundamentals are already turning a corner, the Wal-Mart relationship is in its early innings and the international franchise growth is set to inflect meaningfully higher. BBW gets bucketed in to the dying, secularly challenged, in-line retailer category, it’s a classic case of Wall Street investors missing the forest for the trees and thus presents a compelling asymmetric opportunity.
|Entry||06/03/2019 12:34 AM|
Popped on here to do update blurb on BBW given EPS announcement. Hadn’t seen the SpocksBrainX reply to original post so maybe can kill two birds one stone.
In light of implicit and explicit items highlighted in the release and in the call we think BBW now has 140% upside ($12) and minimal (~20%) downside ($4). We think we’re talking 7 up, 1 down, so rare moment, especially with mounting near-term catalysts.
Build-a-bear matter-of-factly announced strategic partnership with WMT quite a bit more meaningful than the primary research indicated, whereby the six successful test stores are going up to 30+ between now and year end. So 400% albeit from a small base is still 6% gross unit growth to their roughly 300 NA store base. Triangulating between management conversations and sending a private research firm onsite to the 2 of the 6 test locations, we’re highly confident the unit encomics of these stores are materially better than in-line mall locations, to the tune of 400-500 bps at the unit level. Based on a conversation with a mid-level Walmart schematics and planning manager and a consultant to big-box retailer partnership planning, we got the sense WMT feels there is at least an initial several hundred store BBW store-within-a-store opportunity without diluting the test-store-proven unit-economic model, and again, that’s coming from the WMT perspective, not from BBW itself = more objectiv. Note that even if we assumed that were full penetration (the primary research suggested actual addressable market much larger), if we take several hundred to mean ~300 hundred we’re talking a doubling of BBW North America store base opportunity.
The other couple things I’d point out are a) the believe-ability weighting of this type of primary research is decently high given over the past decade or so schematics folks have helped us prognosticate trends from green mountain k-cups to gluten-free food brands to various internet-of-things electronics at big-box retailers — and done so quite effectively; b) even with just 6 test stores over the holiday season BBW won an award early this year for best new WMT partner amidst (obviously) hundreds of other new annual Walmart relationships, this according to a Bentonville-based trade rag and corroborated by other sources; c) while BBW has managed its lease negotiations with mall REITs about as aggressively and effectively as any retailer we cover with mall-based exposure (moreon this in a minute), the Walmart partnership is going to give them a ton of negotiating leverage with landlords — as in closing a store at lease expiration and shifting to a nearby WMT location is now a distinct possibility rather than an empty threat — and we think (based on attending ICSC in Vegas just in the last two weeks) that’s already playing out in a way that will positively impact the unit-economics of their base stores. All-in do the math on the WMT opportunity of (at minimum) a few hundred stores at what we believe to be mid-20s unit-level margins, 400-500K AUV, 100 and change K build-out at a (pre-defined and overtly clear) accelerated growth rate towards TAM fulfillment, discount it back to today, and you can easily get to a value that in-and-of itself exceeds the entire enterprise value of BBW at today’s roughly 70mm mkt cap minus 20 in net cash = 50mm EV. Not that I’d expect anybody to pay too much attention on a company this size, but this likely a way bigger deal than the market appreciates. Being the company just reported EPS Friday and really only talked about WMT in the transcript, which probably my analyst and one other person on earth listened to, I’d suspect the market may begin to understand the value of the inflection in the WMT relationship in the coming weeks/months vs immediately, but certainly through the ramp holiday season / year-end.
The second hidden-value inflection we just got more color on is international franchising. The company has invested in international franchising as a platform over the past couple years, which naturally dilutes profitability as an initial added cost without any topline flow through. Now they announce ~40 unit openings this year on a base of 80 (ex-UK) in Asia = 50% growth, a partnership with LuLu Group in India, arguably the best possible franchisee partner in that region by a landslide, and catalytic growth in China. There is a long-run way there. BBW gets paid in three ways in these cases: what we estimate to be a 4-5% royalty (we think 4.5% is good mid-point triangulating between former Lulu person and BBW mgmt discussion), selling raw materials to franchisee (not huge margin obviously but all is incremental as leveraging already embedded fixed costs with putting platform in place), and franchisee development fees on a per unit basis. This prong to the thesis is going from show-me to shown-you and now question is addressable market size. And obviously this could be hundreds and hundreds of stores. Especially given the quality of their franchisee partners, assume lower than US store base AUVs, and again you can get to the franchisee business alone also being worth north of BBW’s EV today.
So now to address SpocksBrainX. As per the above if his dooms-day thesis on the mall is right — god knows my short book hopes it is — BBW equity could STILL be a double based on Walmart and franchising alone, not to mention their ecommerce and commercial revenue streams which are now growing profitably at double digits rate (as a further driver, we believe the partnership with Carnival Cruise lines also just went from test phase to fleet-wide). That’s valuing BBW’s core business at essentially zero. So here’s why doing investment research beyond reading the business description page of a website and posing a barrage of disaggregated questions is a good idea:
One of the first things you’d realize is that BBW has about the most flexible lease portfolio of most any even partly mall-based retailer we cover. Their management team, to their credit, very aggressively toggled to annual renegotians ~5 years ago. That’s lead to more than 3/4 of their stores being on short-term lease structures. And because they’ve been hammering on this for 5 years, it’s really only their best A-mall locations (which even now aren’t seeing meaningful traffic declines) that are in the other (less than) 25 percent. The other thing they’ve done is shifted to concourse stores where (like the WMT partnership launching now) the returns on capital are higher than in-line stores. Incidentally, our meetings at ICSC with Macerich, PEI, Brookfield, and Starwood all overtly confirmed this notion, and to boot, in the vast majority of leases they suggested BBW has already leveraged its position as an experience-based, family friendly concept, which malls need now more than ever, to shift lease structures towards entirely sliding scale percentage rent structures or negotiated dramatic haircuts to the base rate. All this is to say that if BBW wasn’t benefitting from the aforementioned inflections in its WMT partnership and international franchising segments — which again are arguably alone more intrinsically valuable than its current market price — I’d still pick them as a strong last-man-standing candidate if everything in the mall were to go bust. Which by the way seems well more than priced in for a company that just grew revenue and EBITDA yoy, has a significant net cash balance, and is trading at less than 3x EBITDA and closer to 2x a couple years out or sooner if you were to believe in just one of the couple thesis points listed above.
Last thing. Disney is relaunching blockbusters this year more than any other year in its history to drill home the value of its DIS+ platform relative to the NFLX and the like. As mentioned, a bunch of titles were pulled from last year into this year for this purpose. There is real value in the depth and breadth of BBW’s license agreements with DIS, which is more likely to manifest itself now than ever. In fact, for those not liquidity constrained one could argue BBW could be the best indirect way to play the general theme of this DIS relaunch bonanza. This frankly isn’t how we think about this investment or investing generally, but for those who approach them more from an inflection monetization angle: the launch of Aladdin earlier this month crushed box office expectations, Lion King is coming in late July (product will hit stores early in the month), with Toy Story and then Frozen in the 4Q. The ensemble of data sources we track on BBW (among other retailers) including but not limited to web traffic, multiple credit card panels, and geolocation data suggest a 4 standard deviation positive move in the year-over-year revenue growth indicator thus far in the Q2 period (May). And based on the title launch cadence this is just the beginning. Note they’re also lapping an easy profitability compare in July from their pay-or-age ordeal last year, right when Lion King, the biggest license title in Disney history, hits theatres. As a historical analog, in 2014 BBW was comping -2 in the front half; frozen launched in the back half and comps went to +HSD. The stock ran 200% from ~7 to ~22. And that’s before they had cultivated all these new (and better) distribution channels. This year they have Aladdin, Lion King, Toy Story, and then Frozen, all back-to-back and synched in tandem with (arguably long term business trajectory altering) powerful new channels through which to sell them, first and foremost through Walmart, but also Carnival, various theme parks, Target (google search and see their is a budding wholesale relationship for non core product), their ecommerce platform, etc. Said another way, the collective license value of the movies DIS is relaunching starting right now have over 50x the value of a historical average DIS license title year (happy to provide support for this analysis if anyone cares). And BBW is perfectly poised to benefit from that.
|Subject||Re: Re: fwiw|
|Entry||06/03/2019 10:44 AM|
i like your style and hope it works for you...