Description

Cabela’s (CAB) stock, at $15.07, is down almost 50% from its high of $28.80, and 25% below the June 2004 IPO price of $20, and I believe that at today’s price it presents a rare opportunity to purchase a high-quality growth company at a very reasonable price.  At the current price it is trading at 11.9x trailing earnings, 10.8x expected 2007 earnings of $1.40, and 9.3x 2008 estimated EPS of $1.62.  This seems like a very reasonable price to pay for a unique business that has been growing its top-line at 14% to 15% annually in recent years and should continue growing at 12%-15% annually for some years, with improving operating margins, so that EPS should increase at perhaps 15% annually over the next few years.  This should lead to EPS of over $2.00 in 2010, and a stock price of $30 or higher over a period of two to three years from now, or appreciation of over 100% from the current price.

Also, the Cabela brothers, who founded the company in 1961, own over 33% of the outstanding shares, providing them a strong incentive to maximize long-term shareholder value.  Another indicator that the stock represents good value today: co-founder Richard Cabela, who is now Chairman, bought 30,000 shares at prices between $15.59 and $15.75 in November, and purchases were also made by two other directors in November at prices between $16.58 and $16.75 per share.

The book value at the end of September was $11.70 per share, and will likely exceed $12.50 per share at the end of 2007, so that the stock is trading at 1.2x BV, providing additional downside protection to an investor.

Description of business

Cabela’s, founded in 1961 by brothers Jim and Dick Cabela, bills itself as the “World’s Foremost Outfitters”, selling hunting, fishing, camping and related merchandise for outdoor activities.  It is the world’s largest direct marketer, and a leading retailer (with 26 large stores) of such merchandise, and prides itself for offering “the widest and most distinctive selection of high-quality outdoor products at competitive prices while providing superior customer service”.  The company was originally a direct marketer only, selling through its catalogs, but now also operates 26 large stores, which account for over 40% of the company’s revenues.  To encourage customer loyalty, Cabela’s issues the Cabela’s CLUB Visa credit card, through which it rewards customers for purchases of its merchandise.

In 2006, the breakout of sales by category was as follows: Hunting equipment 27.1%; fishing & marine 12.5%; camping equipment 14.8%; clothing & footwear 36.7%; and gifts & furnishings 8.9%.  Clothing & footwear has been declining as a percentage of total sales, from 38.2% in 2004 to 36.7% in 2006.

Store rollout

Cabela’s operated as a direct marketer only for over 25 years, selling through its catalogs.  It opened its first store in 1987 in Kearny, NE; this store was 35,000 square feet.  The second store was opened in 1991, also in Nebraska, and was 89,000 s.f.  The third store, in Minnesota, was built in 1998, at 159,000 s.f.  By the time of the IPO in June 2004, Cabela’s had 9 stores, and this had increased to 18 stores at end-2006.  Another 8 stores were opened in 2007 (i.e. a 44% increase in the store base), and 7 additional stores are planned for 2008 (an increase of 26%).  Newer stores are typically between 130,000 to 200,000 square feet in size, and the size of the average store is currently about 150,000 s.f.  The stores should help the company grow overall revenues at a mid-teens rate for some years to come.  In 2006, sales per square foot averaged $348, an impressive number, though lower than the $399 peak in 2004 due to the large number of new stores added over the last couple of years.

Financial services business

Cabela’s wholly-owned subsidiary bank (the modestly named World’s Foremost Bank), issues the Cabela’s CLUB Visa credit card, and manages its related customer rewards loyalty program.  During 2006 the bank managed an average of over 850,000 accounts, with an average balance of just under $1,600.  Some investors appear to be concerned that increased delinquencies and charge-offs in this business will significantly hurt Cabela’s profitability in a weakening economy, but I believe that the market has over-reacted to this concern and that it has been factored into the stock price.  Management focuses on lending to customers with very strong credit scores, so that I consider it unlikely that there will be inordinately high losses.

Financial performance

As can be seen in the table below, the top-line and profits of the company have grown steadily in recent years, with revenues almost doubling over the last five years, and the operating margin has increased from 5.7% in 2001 to 7.0% in 2006.  Management expects to grow revenues and EPS at a mid-teens rate over the next few years, a goal I believe is attainable.  Earnings growth in 2007 is expected to be in the high single digits, and this has disappointed investors, driving down the stock price and creating the current opportunity.

I believe that earnings per share could exceed $2.00 in 2010, which would justify a price of $30 or more, or a double in two to three years from now.

Competition

Competitors include other specialty retailers that cater to the outdoor recreation, and casual apparel and footwear market, including Gander Mountain (GMTN), Bass Pro Shops, and The Sportsman’s Guide; big-box sporting goods stores such as The Sports Authority, Dick’s Sporting Goods (DKS), and Big 5 Sporting Goods (BGFV); casual outdoor apparel and footwear retailers such as L. L. Bean, Land’s End, and REI; and mass merchandisers and department store chains such as Wal-Mart and Target. 

What is clear is that Cabela’s is unique in the breadth of merchandise that it offers and the reputation and loyalty it has built with its customers.  Gander Mountain, with annual sales of about $1 billion, has incurred losses in each of the last three years, with bigger losses in the current year than last year.  It operates about 115 stores currently, and the average store size is about 50,000 square feet, or about one-third the size of Cabela’s stores.  Sales per square foot averaged $175 last year, or about half that of Cabela’s stores.  I believe that GMTN’s model, focused on small stores, is not working, and it is possible that it will eventually shrink significantly, which will work to Cabela’s advantage.

Risks

• Weak results due to a prolonged recession.
• Significantly higher losses from credit card business.

Catalyst