Farooq Kathwari really knows furniture. After acquiring Ethan Allen Interiors from Interco in a leveraged buyout in 1989, he jettisoned its stodgy Early American image by redesigning Ethan's products and stores. The more modern lines have been a big hit with buyers. So when Kathwari took Ethan public last March at 18 a share, all of the original investors, including General Electric Acceptance and Chemical Bank, held on to large stakes.
"As a producer and retailer of its own furniture, Ethan is a pure play in an industry that is just starting to consolidate," says a money manager at a Houston-based investment firm that snapped up a 4% chunk of the IPO.
He thinks Ethan could eventually become much larger through a merger--if the industry starts battling for market share when the economy recovers and demand for housing improves. Analyst David Dwyer of Kidder Peabody, a co-underwriter of Ethan's stock offering, agrees: "Ethan represents the best play in the furniture industry from the perspective of both strategic positioning and valuation." He notes that Ethan, now at 18 7/8 after hitting 21 in May, is trading at a far more modest price-earnings multiple--11 times estimated 1994 earnings--than Masco, the nation's largest furniture maker, which is selling at 16 times earnings. "Ethan has better growth potential than Masco because of its concentration in furniture," adds Dwyer. Less than 40% of Masco's operating earnings come from its furniture unit. The rest comes from bathroom and home-improvement products.
BUCKING THE TREND. Over the past four years, Ethan has managed to produce high operating-profit margins despite the slump in the furniture industry. Dwyer notes that since 1989, margins were 11% to 14% each year despite declining margins at other furniture companies, where margins have dropped on average to 5.7% from 12.7% during the same period.
Dwyer figures Ethan could generate sales growth of about 10% over the next several years, propelled not only by an industry recovery but by increased market share and new store openings. Chairman, President, and CEO Kathwari says he expects to add 15 stores this year to the company's current 275. While Ethan owns only 15% of its stores, its products are sold exclusively through Ethan Allen dealers that don't sell competing products. Dwyer sees the company earning $1.30 a share this year and $1.65 in 1994, vs. 47 last year. He thinks the stock should hit 30 in a year.