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DELTA APPAREL INC DLA
February 01, 2021 - 2:48pm EST by
Bill
2021 2022
Price: 20.00 EPS 2.17 3
Shares Out. (in M): 7 P/E 9 6.7
Market Cap (in $M): 138 P/FCF 5 4
Net Debt (in $M): 122 EBIT 0 0
TEV (in $M): 260 TEV/EBIT 0 0

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Description

 
I project DLA will be among the best performing stocks of the year, with near-term and long-term upside potential of 200-500%+, driven by the company's tremendous undervaluation and several catalysts. These catalysts include the potential for DLA to sign one or more transformational customer wins, and dramatically outperform yearly earnings expectations. DLA also recently participated in an industry conference on January 12th, where they gave very positive commentary, and released a new slide-deck with future projections which were significantly above current expectations. I believe the market did not pay attention to this presentation, and absorb its valuation implications for the company, which I will highlight in this report. DLA is about to complete its transformation into a high growth company, yet the stock has barely reacted, giving astute investors the chance to get in before the next leg of the run in this stock. The current set-up for DLA stock is among the rarest of opportunities to buy a company whose business has inflected positively, yet the stock has not yet reflected this change. If the stock market does not quickly recognize DLA’s value quickly, I would expect an acquisition of the entire company or one of its subsidiaries by any number of potential suitors.
 
Valuation:
 
Chewy did a great job writing-up DLA in July 2020, and I recommend everyone read this report. However, there have been significant events since that write-up, which dramatically increases the valuation of DLA, and merits another write-up. Most notably, on 1/12/21 DLA participated in the annual ICR conference and
issued a new slid-deck with very positive projections that are significantly above expectations (ICR Presentation Jan 2021 (d1io3yog0oux5.cloudfront.net). I should note that management has historically been very conservative and non-promotional, which is one of the factors that have held back DLA stock. Within this slide deck DLA stated their near-term EBITDA opportunity was $56 mil and long-term of approximately $109 mil, which translates into EPS of about $2.50 and $5.00. On this basis DLA is currently valued at a near-term and long-term P/E and EV/EBITDA of 8x and 4.9x. On along-term basisDLA is valued on a P/E, and EV/EBITDA of 4x and 2.5x. My estimates indicate that DLA’s objectives are very realistic and potentially conservative. DLAwasnot specific during the conference onexactly what time frame they meant by short-term and long-term, but my estimates indicated short-term means 12-18 months, and long-term is 24-36 months. DLA’s current valuation levels using these numbers are ridiculously under-valued by any measure, and versus any comparable growth companyor non-growth company. I believe DLA should currently be valued at 10x short-term EBITDA potential of $56 mil which equals a $60 target price. This valuation also represents a P/E of 24x the short-term EPS potential of $2.50. Longer-term if the company is able to hit is $109 mil in EBITDA potential, the upside potential for the stock is $125 assuming a 10x EBITDA multiple.
 
DLA management also noted during the ICR conference, that they were in advanced discussions with multiple potential customers for potentially transformational deals, where DLA’s DTG2Go subsidiary would take over their digital printing and fulfillment activities. If one of these deals were announced it could function as a big catalyst for the stock.
 
DLA is a high-growth technology and apparel company being under-valued by the market, because it is a small-cap in the clothing retail sector. DLA is one of the primary beneficiaries of Covid, due to its’ DTG2go subsidiary, which is growing 30%+, and could approach $90M in sales and $21M in EBITDA in FY21. DTG2go is the only large-scale vertically integrated provider of digitally printed apparel, with the ability to manufacture and ship products to consumer and wholesale clients within 24-48 hours. The DTG2go technology and process are highly proprietary, and is used seamlessly within the systems and websites of DLA’s retail customers (including WMT and TGT who I believe are two of DLA’s customers), to enable them to lower costs (no inventory), increase delivery speed, and increase SKUs at no extra costs on their websites. I estimate DTG2go alone, is currently worth $30-$45per share, and if the market does not recognize the value, DLA will spin-off or sell this subsidiary. DLA’s other subsidiaries are also growing including its lifestyle clothing brands Salt Life and Cost ($43M FY19 revenues), and the company’s other wholesale and direct clothing businesses, Soffe and Delta activewear ($329M in FY19 revenues).
 
Why Does This Opportunity Exist?
 
The dramatic under-valuation for DLA exists for several reasons;
 
1) DLA is an underfollowed micro-cap which is not well known, and has no direct comps.
 
2) DLA operates within the apparel and retail spaces, both of which are unloved by investors. However, DLA should grow significantly in this business environment, because its products are primarily sold through ecommerce and other sales channels, and are mostly casual/activewear, which is growing strongly due to the stay at home economy. DLA’s direct digital printing business (DTG2go) is also among the highest growth segments in all of apparel in this environment, which I expect to grow 30%+ for years to come.
 
3) DLA was initially impacted negatively from Covid, and reported weak FY3Q EPS results (DLA reports on a September fiscal year) with revenues down 40% YOY, and one-time Covid costs of $23.1 mil ($11 mil were non-cash). However, what the market seems to have missed, is that the initial Covid impact was purely from thedisruptions and reconfigurations caused inthe initial stage oftheshut-down, when the company was forced to shut some ofits manufacturing plants and stores. Since that time,the impact of Covid has turned positive, and DLA has returned to YOY growth. In fact, Covid is now driving accelerated growth for DLA due to the in digital printing and e-commerce, and the change in consumer preferences towards casual/activewear apparel.
 
4) DLA expects relatively muted results in the March quarter due to weather issues which impacted manufacturing in their South American plants, and shipping delays caused by elevated holiday shipping volumes. Both of these items were out of DLA’s control, are not indicative of weak demand, and are reflected in current expectations. In fact, DLA is in the strongest demand environments the company has ever seen, and is on allocation with its customers. As the company adds capacity and recovers from the production issues, DLA should be positioned for tremendous growth in the back half of the year.
 
The Company:
 
Delta Apparel’s 10k states that the company “is a vertically-integrated, international apparel company. With approximately 8,500 employees, we design, manufacture, source, and market a diverse portfolio of core activewear and lifestyle apparel products under ourprimary brands of Salt Life, COAST, Soffe, and
Delta. We are a market leader in the direct-to-garment digital print and fulfillment industry, bringing DTG2Go technology and innovation to the supply chain of our customers. We specialize in selling casual and athletic products through a variety of distribution channels and tiers including e-retailors, outdoor and sporting goods retailers, independent and specialty stores, department stores and mid-tier retailers, and mass merchants. Our products are also available direct-to-consumer on our websites and in our branded retail stores. We design and internally manufacture the majority of our products, more than 90% of the apparel units that we sell are sewn in our owned or leased facilities. This allows us to offer a high degree of consistency and quality, leverage scale efficiencies, and react quickly to changes in trends with the marketplace”. DLA’s manufacturing operation are located in the Northern Hemisphere (United States, El Salvador, Honduras, and Mexico), which give the company distinct cost, delivery time, and trade advantages, versus Chinese andother competitors that source there products from abroad. The company estimates that about 50% of their products are ultimately sold via ecommerce. DLA has two divisions, and 5 subsidiaries under these divisions. Delta Group ($389M in FY19 sales), and Salt Life Group ($43M in FY19 sales). Delta group is comprised of 3 subsidiaries, including DTG2Go, Soffe, and Delta Activewear. I am spending most of this report focusing on DTG2Go, because this subsidiary is the crown Jewel of DLA, and I estimate its worth about $30 per share, today. However, the rest of DLA’s subsidiaries are in very healthy condition and are growing. Salt Life group is growing particularly strongly, as this brand gains significant traction in the Covid environment, with revenues up 23% YOY in July. The ink to DLA’s latest company presentation is below:
 
DTG2Go:
 
DTG2Go is the crown jewel of the company. DLA’s 10k states that DTG2Go is, “a market leader in the direct-to-garment digital print and fulfillment industry, bringing technology and innovation to the supply chain of our many customers. We use highly-automated factory processes and our proprietary software to deliver on-demand, digitally printed apparel direct to consumers on behalf of our customer,” using proprietary technology and trade secrets. “Utilizing its seven fulfillment facilities throughout the United States, DTG2Go offers a robust digital supply chain to ship custom graphic products within 24-48 hours to consumers in the United States and to over 100 countries worldwide. DTG2Go services the fast-growing e-retailer channels,as well as the ad-specialty, promotional products,screen print, traditional retail, social media, and licensed apparel marketplaces, among others.” DTG2Go has grown its revenues from $10M in FY14 to a current run rate of around $90M+ expected this year. DTG2Go’s growth has accelerated since Covid, and grew 50% YOY in July. The primary drivers of DTG2Go’s growth include the subsidiary’s revolutionary business model, a growing market for digitally printed clothing, the lack of any competition with similar capabilities, and Covid which has been causing more customers to adopt DTG2Go’s solutions and has pushed consumer preferences towards casual/activewear attire.
 
DTG2Go is positioned to grow tremendously over the short and long-term due to its revolutionary business model, the expected growth in digital printing on apparel, the lack of viable competition, and the shift in consumer preferences. DTG2go is the only vertically integrated digital printing provider I am aware of that has the ability to ship high volume, high quality product directly to consumers within 24-48 hours. DTG2Go’s proprietary software and logistics system enable it to seamlessly integrate with any of its customer’s websites, and for digitally printed apparel to be manufactured upon purchase, and shipped within 24-48 hours directly to the customer without them knowing DLA hadanything todo withthe process. This model is simply a better mouse-trap for virtually any retailer, enabling them to lower costs, eliminate holding inventory, increase selection, and quicken delivery times. Imagine how much more money a retailer would make if it could multiply the selection of printed apparel it offers on its website at no additional cost, and with no inventory? Also imagine how much money a retailer could save by almost never having to write-down this type of inventory again? DTG2Go’s platform allows them to do both – no-brainer. This platform can also give e-retailors future capabilities such as allowing consumers to customize their own clothing, which many say is a coming trend. DTG2Go’s market opportunity is huge, and has barely entered its first inning of growth. Digital impressions only make up about 2% of total graphic impressions on clothing. DLA believes the digital impression
market could grow over 400% in the coming years, to 10% of graphic impressions on clothing. Other commentators expect even greater penetration of digital printing. Given the tremendous advantages of digital printing for many applications versus traditional screen printing, it seems highly likely that rapid growth of 30%+ will continue into the foreseeable future. Many industry participants expect digital printing to eventually comprise 50%+ of the graphic impressions marketdue to itssuperior cost and selection characteristics. It is also important to note that digital printing is generally environmentally superior versus screen printing, because of the cleaner water based ink used in the digital process.
 
The dramatic advantages DTG2Go offers customers was demonstrated on 10/8/20 when DLA announted that DTG2Go partnered with Hot Topic toopen a digitial print and fulfillment center, intergrated within Hot Topics distribution center. This was a first of a kind arrangement in the retail industry, where Hot Topic was outsourcing their digital printing a fulfillment to DTG2Go. I expect several more similar agreements to be announced shortly. I believe DTG2Go is currently worth $30-$45 per share, with significant upside in a sale, or spin scenario, which management is considering. I derive my $30-$45 value for DTG2Go by applying a 10x-15x EBITDA multiple on my 2021 EBITDA estimate of $21M. In discussions with bankers, I believe DTG2Go could be valued at a 15x EBITDA+ multiple in a sale or spin scenario, which equals $315M or $45 per share. DTG2Go is also potential acquisition target from many etailers and retailers including AMZN, FB, EBAY, WMT and TGT among others.
 
Delta Activewear
 
The company’s 10k states, “Delta Activewear has been a preferred supplier to the market for core basic tee shirts for many years. OurDelta Pro Weight® and Magnum Weight® products are a huge part of our heritage. These lines offer a diverse selection of mid-weight and heavier-weight, 100% cotton fabrications…Service is a key component of Delta Activewear. We provide superior service to our customers by shipping the same day of order receipt down to a piece level, allowing customers to purchase exactly what they need when they need it. We are also excited to be offering a seamlesssolution for small-run decoration needs with our on-demand digital print services, powered by DTG2Go. Through our FunTees business, we serve our customers as their supply chain partner, from product development to shipment of their branded products, with the majority of products being sold with value-added services including embellishment, hangers, hangtags and ticketing, so that they are ready for retail sale to the end consumers. We assist our customers in managing their production and inventory needs and provide technology tools to help them manage and grow their business. We sell our products to a diversified audience, including sporting goods retailers, large licensed screen printers, specialty and resort stores, and ad-specialty and promotional products businesses. We also service major branded sportswear
companies, trendy regional brands, retailers, and sportslicensed apparel marketers.”
 
Soffe
 
The company’s 10k states, “Soffe is an iconic, heritage brand that designs and produces high quality activewear for spirit makers and record breakers. Soffe sells a wide range of activewear products for women, men, juniors and children with appealing graphics anchored in today's trends. Widely known for the original “cheer short” with the signature roll-down waistband, Soffe also offers spirit wear and team wear that outfits cheerleaders, dancers, and gymnasts around the world. Intensity by Soffe leads the way in female fit, fashion-forward team uniforms and features the first female-fit fast pitch pant, in addition to practice gear and accessories. Layered with Soffe's female presentation are styles that seamlessly transition from studio to street-wear for all day comfort. Soffe's heritage is anchored in the military, and we continue to be a proud supplier to both active duty and veteran United States military personnel worldwide. The men's assortment features the tagline "anchored in the military, grounded in training" and offers everything from physical training gear certified by the respective branches of the military, classic base layers that include the favored 3-pack tees, and the iconic "ranger panty." We apply graphics to Soffe activewear using screen print and digital print technology in our North Carolina facility. Soffe has diverse distribution channels which include all military branches, as well as big box and independent sporting goods retailers, department stores, team dealers, school uniform suppliers, and specialty stores. We also offer our Soffe products direct to consumers at www.soffe.com and at our branded retail stores.”
 
Salt Life Group
 
According to DLA’s 10K, “The Salt Life Group is comprised of our lifestyle brands focused on a broad range of apparel garments, headwear and related accessories to meet consumer preferences and fashion trends, and includes our Salt Life and Coast business units.” According to DLA’s 10K, “salt Life is an authentic, aspirational lifestyle brand that embraces those who love the ocean and all it offers, from surfing, fishing, and diving to beach fun and sun-soaked relaxation.
The Salt Life brand combines function and fashion with a tailored fit for the active lifestyles of those that “live the Salt Life.” With increased worldwide appeal, Salt Life continues to expand its product assortment outside of apparel, now offering swimwear, sunglasses, bags, and accessories as well as its own craft beer,
Salt Life Lager. From its first merchandise offerings in 2006, Salt Life has grown distribution to include surf shops, specialty stores, department stores, and outdoor retailers to complement our own network of branded retail stores.”
 
Coast Offers “a full line of premium casual apparel, Coast is as much a testament to good times and carefree afternoons as it is to superior quality, custom fit, and maximum comfort. The Coast collection is designed to bring the coastal experience of weekends andsummers at the beach to everyday life, keeping those that celebrate the relaxed, yet sophisticated coastal lifestyle fully connected, year-round.” *10k
 
Income Statement:
 
 
Using relatively conservative assumptions, I estimate DLA will report FY21 revenues and adjusted EPS of $470M, and $2.17, versus consensus estimates of $431M and $1.55. Balance Sheet and Cash Flow: DLA’s balance sheet is deceptively strong, and I expect the company to generate tremendous adjusted FCF in 2021 and beyond. At first glance DLA’s net debt looks substantial at $122 mil, representing a debt/Adjusted EBITDA multiple for FY21 of 2.4x. However, due to DLA’s unique
business model the company keeps a large amount blank clothing as inventory, which is easily sold and rarely written down due to its eventual use. These blanks are used for the company’s digital printing platform. This inventory has very little write-down risk, as the clothing are primarily blank t-shirts and similar apparel that will eventually be sold. Commercial banks are very happy to give DLA asset backed loans on this inventory, as indicated by the fact that the company currently has a $200M revolverwith Wells Fargo at a low interest rate of 2.9%. DLA currently has very healthy credit profiles as stated in their 10Q, “as of June 27th, 2020, … our cash on hand combined with the availability under the U.S. credit facility totaled $45.7M.” 
 
I project DLA will generate very strong adjusted FCF in FY21 of $30M, which equates to a 21% FCF yield. To note, my adjustments assume flat working capital, and in reality, as revenue growth continues to accelerate, we are likely to also see growth in inventory. The $30M of FCF is thus illustrative of what DLA would achieve in a flat revenue growth environment at the projected FY21 revenue base. However, It is a positive indication in DLA’s business to see inventory expansion due to revenue growth. DLA achieves returns of much greater than its cost of capital from revenue growth, due to its high EBITDA margins in the 22%+ range at D2G2Go, which is where much of the growth is coming from.
 
Catalysts:
 
There are several catalysts for DLA including the following; 1) Transformational deal announced by DTG2Go similar to the Hot Topic arrangement. 2) My expectations that DLA will report significantly above consensus FY21 EPS results. 3) The potential spin-off or sale of the company’s D2G2Go subsidiary, which
would unlock tremendousvalue; 4) Potential sale oftheentire company, because DLA would make a perfect tuck-in acquisition for many on-line and traditional retailers; 5) The potential that investors begin to better understand the company, and revalue it as a high growth company.
 
Risks:
 
 
I believe all the potential risks for DLA are more than reflected in the stock price. The primary short-term risk for the company include the following; 1) If Covid outbreaks cause closures at DLA’s manufacturing facilities. However, if this were to occur, I think it would be positive mid-and-long-term because Covid
highlights the positives in DLA’s business model for its customers. 2) Potential write-downs of receivables associated with bad debt of customers. I believe the company has already taken most or all of its Covid related write-downs, and any further write-downs will not be material. DLA’s customer base is broad, with
no customer accounting formore than 5%of sales. 3) Ifmythesis proves to be incorrect about the growth trajectory of digital printing and DLA’s strategy.
 
Disclosure: At the time of publishing DLA is among my largest equity holdings. I put my money where my mouth is!
 
 

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

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