Kohl’s J-Lo Connection Invites LBO on Discount: Real M&A
After slashing prices over the holidays, Kohl’s Corp. (KSS) itself could be picked up at a 42 percent discount to its revenue.
Kohl’s fell this month to its lowest valuation relative to revenue in more than four years after the retailer cut its profit forecasts because of disappointing holiday sales and steeper-than-planned price reductions. The Menomonee Falls, Wisconsin-based company now trades at only 0.58 times sales and at a cheaper multiple to profit than any other North American department-store chain, according to data compiled by Bloomberg.
With exclusive brands from Jennifer Lopez and Vera Wang that help build customer loyalty and a free cash flow yield that’s higher than the median of its peers, Kohl’s could be an attractive buyout candidate for a private equity firm, Edward Jones & Co. said. The company’s real estate also adds to its appeal, Morningstar Inc. said. A takeover for Kohl’s, which has an enterprise value of $14.5 billion, would be the biggest U.S. retail deal since 2005, data compiled by Bloomberg show.
“It’s a good, sound retailer,” Brian Yarbrough, an analyst for Edward Jones in St. Louis, said in a telephone interview. “There’s been more talk of it being a private equity play because it’s cheap and it’s not like the model’s broken or it’s a bad business. The earnings power is there.”
Jen Johnson, a spokeswoman for Kohl’s, didn’t respond to a phone call or e-mail seeking comment on whether the company would be open to a sale.
Kohl’s runs more than 1,100 stores across the U.S., with annual sales of about $19 billion and a focus on a slice of the retail market that lies between high-end chains and discounters.
Shares of Kohl’s had their biggest-ever drop on Nov. 29, tumbling 12 percent after the company said sales at stores open more than a year declined in November, instead of rising as analysts had forecast.
On Jan. 8, the stock touched its lowest level since July 2009 after Kohl’s cut its profit forecast for its fiscal fourth quarter because of steeper-than-planned discounts during the holiday season. The decline left Kohl’s valued at 0.53 times its 12-month trailing sales, the lowest since November 2008, according to data compiled by Bloomberg.
At yesterday’s closing price of $45.73, Kohl’s enterprise value was 5.2 times its earnings before interest, taxes, depreciation and amortization, the lowest among North American department stores, data compiled by Bloomberg show.
Today, Kohl’s shares rose 1.2 percent to $46.29, the fifth- biggest gain among 33 stocks in the Standard & Poor’s 500 Retailing Index.
The recent stock drop could attract buyout firms seeking to improve operations, said Jeff Burchell, a Toronto-based money manager at Aston Hill Financial Inc., which oversees about C$6 billion ($6 billion). He said he sold his Kohl’s shares in October.
“You’re not paying a lot for the stock, so it does fit the bill for someone coming in and saying, ‘OK, Kohl’s used to be a great spot and it was exciting to go there,” Burchell said in a phone interview. For a buyer who believes Kohl’s hasn’t become irrelevant, then “with a new management team or an invigorated management team with a new private equity sponsor, you could get some excitement back.”
Buyers could also be drawn in by Kohl’s ability to generate cash, as well as the company’s exclusive brand lines and private apparel labels, Edward Jones’s Yarbrough said.
Private equity firms could utilize the cash that Kohl’s throws off to help repay any borrowings used to finance a deal.
The company had more than $900 million of free cash flow in the last 12 months, the second highest of any North American department store, according to data compiled by Bloomberg. Its free cash flow yield -- a measure of how much cash from operations are generated relative to a company’s share price -- of 8.1 percent topped the median for the group of 6.4 percent, the data show.
“That’s the number-one thing: the ability of cash flows to support any new debt,” Paul Swinand, a Chicago-based analyst for Morningstar, said in a phone interview.
Morningstar, which said this week that Kohl’s is among its top takeover candidates, also cited the company’s real estate holdings. Kohl’s owned more than 400 of its stores as of last year, according to its most recent annual earnings filing.
While Kohl’s could attract private equity firms, a buyout could be a stretch given the company’s $4.6 billion in total debt and other liabilities, said Richard Jaffe, an analyst at Stifel Nicolaus & Co. Paying a 30 percent premium, for instance, and putting 20 percent cash down, a buyer might have to borrow $10 billion to buy the retailer, he said, leaving little room for error.
“You’ve got to get this business really working fast, because you don’t have time for a down year,” said Jaffe, who recommends buying the shares. Kohl’s has a good business that can improve, Jaffe said, although growth is limited because it already has more than 1,000 stores.
Even before accounting for a premium, Kohl’s $10.5 billion in market value plus $4 billion in net debt would already rank as the biggest deal for a U.S. retailer in eight years, according to data compiled by Bloomberg. In 2005, Federated Department Stores Inc., now Macy’s Inc., bought May Department Stores Co. for about $17 billion, the data show.
Still, buyout firms might have the wherewithal to tackle even a deal of Kohl’s size, said Barry Arnold, a fund manager at Delafield, Wisconsin-based Arnold Investment Counsel, which owns Kohl’s shares.
“There’s plenty of cash sloshing around, so that’s not a big problem,” Arnold said. Private equity funds have $360 billion of committed unspent capital dedicated to buyout funds in the global market, according to data from research firm Preqin Ltd.
Record-low borrowing costs in the market for junk bonds, where LBOs are financed, and rising confidence in the financial system are boosting bets that there will be more buyouts. Dell Inc. (DELL) is in talks to be taken private in what would be the first leveraged buyout to exceed $20 billion since 2007, according to people with knowledge of the matter.
Arnold, who said he bought Kohl’s shares based on the company’s merits and not its potential as a takeover target, still sees the possibility of a deal.
“It’s an attractive company,” Arnold said. “Never say never. But that would be icing on the cake.”
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