The stock of L Brands (LB), the parent of Victoria Secret's and Bath & Body Works, was trading sharply lower after a disappointing April sales release.
Reported sales were in line with 2018 full year guidance, with net sales up 4% YoY and comparable sales up 3% YoY after adjustment for the earlier Easter holiday.
By brands, and after a 3% adjustment for the earlier Easter holiday, comparable sales were up 1% at Victoria Secret's (VS), and up 9% at Bath & Body Works (BBW). For Q1, comparable sales were up 1% at VS and 8% at BBW.
The killer sentence in the sales report was:
THE MERCHANDISE MARGIN RATE [at Victoria's Secret] WAS DOWN SIGNIFICANTLY TO LAST YEAR DRIVEN BY ADDITIONAL PROMOTIONAL ACTIVITY IN ORDER TO DRIVE TRAFFIC.
Lower merchandise margins lead to lower gross margins, which forced the company to guide Q1 EPS at the lower end of the previous guidance of $0.15 to $0.20.
Despite the guide down, we were surprised by the steep selloff, which brought the stock close to $30/share. Historically, Q1 contribution to earnings is about 10%, which renders the guide-down relatively unimportant.
Indeed, the selloff was rather the result of ever more investors throwing the towel on Victoria Secret's, as exemplified by Buckingham Research calling the company “dead money”.
In their gloominess, investors seem to be ignoring the strength of the Bath & Body Works business, which was the biggest contributor to operating earnings in 2017, and is bound to be an even more important contributor this year.
On what follows, we estimate the value of Bath & Body Works at a standalone business, and argue that widespread investor pessimism has taken L Brands stock to a price not far from that substantiated on the BBW business alone.
We close with our views on the investment opportunity and a recommendation to management regarding capital allocation.
Before moving on to valuation, we want to remind investors that L Brands is part of the market-beating IW Portfolio since August 2017. Our original long thesis on L Brands is available here.
Leslie Wexner, Founder, Chairman and CEO of L Brands, has been a shareholder champion (photo: Art Market Monitor)
Valuing Bath & Body Works as a stand-alone business
