Description

DECK offers one of the better risk/rewards in the consumer space. First, Covid should impact DECK’s brands much less than most other apparel companies. Uggs is mostly a functional outdoor winter brand with minimal revenues in the spring and summer, while consumer demand for Hokas should actually increase. Second, I think Hoka is a very strong brand that can grow to $700M to $1bn v $350M now. Finally, the stock has $20 per share in net cash. Third, valuation is good, the stock trades at 12x run rate normal earnings ex cash. With Hoka growing > 50% normal earnings is growing substantially faster than 10% a year and the stock deserves a high teens multiple. I believe the stock will trade between $210 and $290 by YE 2022, representing upside of 50% to 107% over 2.5 years.

Hoka represents 15% of revenue but is growing 50% while the rest of the business is mature. Hoka therefore represents over 25% of the DECK value. I expect demand for Hokas to rise materially due to Covid. There is a shift away from exercising in gyms, indoors and in groups and this benefits Hoka more than any other apparel brand. Unless the prevalence of the virus is very low in a community, going to the gym is a high risk activity. indoor fitness classes inside a gym is extremely risky. the most prevalent way the virus spreads is through sharing air indoors. Moreover, a mask is not very effective if it becomes moist from sweat. Therefore, I reached the conclusion that unless the US gets its Covid case count down substantially, that people will forego gyms until a vaccine arrives. Running is taking off as a substitute to gym classes, cardio workouts at the gym and group sports like basketball. you can see this in sharp changes in google trends for running shoes – the generic term and specific brands like Hoka and Brooks. In contrast, google trends for gym memberships and basketball shoes are down sharply. Hoka positions itself as a very comfortable and cushioned shoe. There is extra demand for this type of shoe as people now substitute running on a treadmill, step climber or elliptical for running outside on pavement. Running on pavement is harder on the knees. Hoka’s Maximalist design is best suited for these runners. Among running shoes, those offering cushioning are seeing the most growth on google trends. Maximalist shoes made by others include Brooks’ Ghost and Adidas’ Ultraboost.

Hoka does have some fad risk. it’s a maximalist brand and that style will go in waves. But it is an authentic brand that delivers on performance. It was designed to be a cushioned shoe that you can run marathons in which is hard to do because an elevated cushion slows you down. Furthermore, the brand has diversified into shoes that are less Maximalist and have less cushioning. The brand has weathered copycats from Nike and Adidas which demonstrates that the brand is powerful.

If Hoka revenues can grow $350M to $650M over the next 2-3 years with 20% incremental margins that can add $1.85 to $3.50 a share in EPS.

Ugss – Uggs is a mature and strong brand. it will not grow much. I estimate that Uggs has ~25% share of the women’s winter boot market in the USA. The brand is much more functional than fashion oriented, making it less impacted by Covid than other brands. Women do not buy Uggs to make a fashion statement and be seen by their friends. they buy them because they are very comfortable and keep them warm. While people will undoubtedly go out less in the winter, most trips outside will be functional and having a functional winter boot is a necessity. I have followed this brand since 2012 and commissioned a couple consumer surveys over the years that confirm my view. The brand is more or less immune to copycats and has good pricing power. Uggs is highly seasonal with most sales coming between September and February. Because of that and their functional nature, there is minimal inventory obsolescence risk. Therefore it is damaged less by stay at home orders.

Covid will hurt near-term results due to inventory de-stocking at retailers and a sharp drop in foot traffic at Uggs stores, etc. To handle this risk I am short mall REITs and other retailers that I feel are hurt more. Even without those hedges,  I feel DECK offers a good risk/reward because I expect Hoka to surprise investors to the upside over the summer.

By YE 2022, I expect net cash per share to grow from $20 to more than $40. I expect 2023 EPS of $13 to $15 before buybacks. with a 13x-16x multiple ex cash I get to a target price of $210 to $290 in 2.5 years.

There is also so upside potential if they use cash to buyback shares or do a good acquisition.

Risks – First, Covid will hurt 2020 earnings. there is not doubt that consensus is far too high. that said, the stock is 30% off its high and the market knows the street is too high. Second, Uggs is impacted by winter weather. a warm winter will hurt sales. Finally, there is a fad element to Hoka. it’s an authentic running shoe brand but its Maximalist cushion style goes in waves. I think it has several more years with room to run through increased distribution, international expansion, SKU proliferation but there is a risk that the style is less in-favor in a few years.

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