Beacon Light Capital Sends Letter to Jos A. Bank (JOSB), Pushes For Change ~ market folly

Wednesday, August 14, 2013

Beacon Light Capital Sends Letter to Jos A. Bank (JOSB), Pushes For Change

Ed Bosek's hedge fund firm Beacon Light Capital yesterday sent a letter to Jos A. Bank (JOSB) asking for change at the company.  Beacon Light owns around 1% of the company, but it is a highly concentrated position for them now and they've owned shares for 3 years.

Beacon Light Looks For Buyback

Basically, Bosek is pushing for the company to do a buyback now as the JOSB has over 30% of their market cap in cash and has never done a buyback or paid a dividend.  Even more frustrating, they highlight management's lack of communication with shareholders and see a lot of trapped value at the company.  They see normalized earnings are close to 4 and should grow.

While Jos A Bank shares trade around $44 currently, he sees them heading as high as $70 after a buyback, earnings close to $6, and a multiple of 14-15x earnings. 

Prior to founding Beacon Light, Bosek worked at Atticus Capital.

Bosek also appeared on CNBC to talk about what needs to change at JOSB.  The video is embedded below:

Beacon Light's Letter to Jos A Bank

Here's the full text of their letter:

"August 13, 2013 
Board of Directors
Jos. A. Bank Clothiers, Inc.
500 Hanover Pike
Hampstead, MD 21074-2095 

Dear Board of Directors, 

We are writing to you on behalf of BeaconLight Capital LLC and its affiliates (together, "BeaconLight" or "we"), collectively the beneficial owners of more than 1% of the common stock of Jos. A. Bank Clothiers, Inc. ("Jos. A. Bank" or the "Company"), having been shareholders for three years. After extensive study and analysis, we are convinced that tremendous value is trapped inside the Company due to the absence of a credible capital allocation policy, an insular insider Board of Directors (the "Board"), poorly aligned management incentives, and the Company's refusal to communicate with shareholders. After several unsuccessful attempts to privately engage in constructive dialogue with the Company and the Board, we believe it is necessary to publicly voice our concerns about the Company's direction. We urge the Board to meet with shareholders with the goal of reconstituting the Board to add true shareholder representation, and strongly encourage other shareholders to reach out to the Company to demand change. With the simple changes outlined in this letter, we believe that the stock should be worth $70 per share even at a discounted multiple to its peers.

Jos. A. Bank Has Underperformed Its Peers and Is the Cheapest US-Listed Retailer  

While we appreciate the role that current leadership played in building the Company from a sleepy 100-store regional retailer to a national 600-store company with over $1 billion in sales, they have delivered increasingly dismal total shareholder returns over the last five years. The Company's stock has underperformed the S&P Retail Index by 5%, 116%, and 40%, in the last five, three and one year periods, respectively. 

Although the Company has suffered weak operating results in the past eighteen months, the vast majority of the stock's underperformance is attributable to multiple contraction. The market is heavily penalizing the Company for its inefficient use of cash and exceptionally poor corporate governance. As a result the Company currently trades at depressed multiples on depressed earnings. In fact, at 6x enterprise value to consensus EBIT expectations for the year ending January 2014, the company trades at nearly a 30% discount to its peer group. Additionally, 6x EBIT is the lowest multiple of any retailer publicly listed in the United States with a market capitalization over $250 million.

The Board's Actions Make Clear Its Total Disregard for Shareholders  

The Jos. A. Bank Board has no truly independent directors, has one of the longest average board member tenures of any US-listed company, and has a combined ownership of only 1.5% of the Company's outstanding stock. These factors have resulted in a Board that defers to the Chairman, Robert Wildrick, and seems to ignore other stakeholders. While we acknowledge Mr. Wildrick's contributions to the growth of the Company during his time as CEO, his past success does not entitle him to run the Company as a personal fiefdom. 

Though the Board technically has four independent directors, the reality is that every member of the Board has relationships or connections to the Company or Mr. Wildrick. The Lead Independent Director, Andrew Giordano, was the former Chairman of the Board who hired Mr. Wildrick to run the Company in 1999. Neal Black, the Company's current CEO, was hired by Mr. Wildrick after previously working with him at Belk. James Ferstl also worked with Mr. Wildrick at Belk and at their ill-fated attempt to turn around Venture stores in the 1990s. The remaining two directors, Sidney Ritman and William Herron, are both friends of Mr. Wildrick and Mr. Giordano from Palm Beach. This cohort allows the Chairman to collect $825,000 per year for consulting the Company on acquisitions that none of the shareholders seem to want. Notably, the entire Board combined only owns a measly 1.5% of the Company's stock. In fact, in 2006 when he was the CEO, Mr. Wildrick sold nearly his entire 5% stake in Jos. A. Bank at an average share price of $28 and has not purchased another share since. 

In 2010, the Board installed a "share compensation" plan for management, providing a cash and stock bonus based exclusively on the annual performance of the Company's net income relative to targets set by the Board. There is no compensation based on any shareholder-aligned metrics, such as earnings per share, return on capital, or total shareholder return. Further, each year, the stock portion of the bonus is for a fixed amount of dollars rather than a fixed number of shares. This actually creates a perverse incentive for management to minimize the share price and thereby, accumulate a larger stake in the Company over time.

The current composition of the Board opens the door for shareholder abuse, and unfortunately, every recent governance action by the Jos. A. Bank Board has only served to tighten the Board's grip on the Company at the expense of the shareholders. The Company continues to have a poison pill and a staggered board even though less than 25% of public companies have a staggered board and less than 10% have a poison pill. 

In addition, while most public companies have taken steps to become more shareholder-friendly, Jos. A. Bank has become increasingly unfriendly towards its owners. In August of 2012, the Board increased the ownership threshold required to call a special meeting from 35% to 50% of all shareholders. Typically, only 10% of shareholders are required to call a meeting, and proxy advisory firms are generally critical of a threshold above 15%. More recently, in July of 2013, the Board once again amended the Bylaws, this time to make Delaware the exclusive venue for shareholder actions against the Company's Board of Directors. 

Limited and Misleading Communication with Shareholders

Shockingly, in the summer of 2012, the Company decided that it would only communicate via "public disclosures to ensure that all Shareholders have equal access to the information." This was a stark change as the Company's CFO had previously held routine investor calls and communicated with sell-side analysts. Further, the Company does not follow the protocol of hosting live public conference calls with investors and analysts, and instead reads a script and only answers prepared and curated questions. 

This policy of no shareholder or analyst contact is misguided in any environment, but is particularly egregious for a business that has faced the most tumultuous period in its history and has seen gross margins plummet over 600 basis points. Rather than help shareholders understand the issues, the Company provided grossly inadequate discussions of its results in the 10-Qs filed with the SEC. Originally, the filings made it appear that most of the margin pressure was due to pricing and competition, with cost inflation of cotton and wool playing only a minor role. It was only after the SEC initiated a correspondence asking for more detail on the gross margin fluctuations during the year that the Company explained that "substantially all of the decline for the first nine months were due to these higher sourcing costs." This practice of disseminating minimal and ambiguous disclosures has undoubtedly caused the stock to underperform by increasing uncertainty and making it extremely difficult for potential new investors to understand the business. 

Shareholders Have Spoken Loudly that Hoarding of Cash for Acquisitions is the Last Straw

In addition to poor operational performance and inadequate communications with investors, the Company's hoarding of cash stands as the last straw for most investors. The Company has never paid a dividend or re-purchased any shares. As a result, the Company has a growing cash pile that reached a staggering $377 million at the end of the fiscal year ended January 2013. This equates to $13.50 per share or 32% of the Company's market capitalization. Remarkably, the Company's cash reserve is more than double the value of its property, plant and equipment, more than its total inventory, and even more than 1.5x the Company's total liabilities. We see no conceivable business justification for holding this much cash. By year end the cash pile could approach $16 per share or nearly 40% of the Company's market capitalization, all while Mr. Wildrick is being paid a substantial sum to supposedly search for acquisitions that shareholders do not want or agree with. 

All of these actions reflect an insular Board focused on maintaining the status quo, combined with the audacious belief that shareholders will sit idly as they embark on a path of value destruction. 

Fortunately, at the shareholder meeting in June, shareholders sent a clear message to the Board that the current path is unsustainable. Over 31% of shareholders voted against incumbent directors James Ferstl and Sidney Ritman despite their running unopposed. Additionally, for the first time in the Company's history, the Say on Pay proposal was voted down. It is obvious from these results that shareholders are losing their patience and that the Board's grip on the Company is becoming tenuous.

The Way to Unlock Substantial Value  

While the above-mentioned issues are concerning, we believe that Jos. A. Bank has a solid long-term foundation, a talented operational management team, and exciting growth prospects. With the right capital allocation, strong corporate governance, better aligned management incentives, and more appropriate investor communication, we believe that the Company and its shareholders will thrive in the years to come. 

First, while the business has performed poorly recently, we believe that these issues are largely temporary. Most of the problems stem from the fact that the Company's raw material purchases take longer to feed through for the Company than its competitors. The timing difference is generally minor, but from 2010 to 2011, cotton and wool experienced a 10-sigma price move. The price of cotton, specifically, nearly quadrupled in 18 months before falling by over two-thirds in the following six months. As costs were spiking for its competitors, Jos. A. Bank took advantage of their lower input costs and promoted aggressively. This produced banner years in fiscal years 2010 and 2011, growing revenue over 27% combined. In 2012, as competitors' costs were normalizing, the Company faced rising input costs at a time when unfavorable weather conditions also left it long in inventory. The Company tried to become even more promotional to clear its inventory at the expense of margins, but struggled. Ultimately, it decided to reset its promotions at the end of 2012 and early this year. Most observers have noticed that the Company's television advertising has been considerably less frequent and sensational. 

The change in promotional intensity, combined with much lower and less volatile cotton and wool costs, is great for the future of Jos. A. Bank's business. Though sales growth has suffered from the reduction in promotions and likely will continue to suffer through the rest of the year, there will be a solid base from which to grow once the business laps the changes, and gross margins should benefit from the powerful dual tailwinds of less promotions and lower raw material costs. The few analysts who cover the stock expect earnings per share of close to $2.75, but we see no reason why margins do not return to historical averages in the low-60% range, which would yield normalized earnings closer to $4 per share. At today's share price near $40, excluding the cash pile, the Company trades at approximately 6x normalized earnings. This is simply too low for a retailer with real growth from box increases, a new factory store concept, and optionality around tuxedo rentals. Longer term, at maturity, we believe that Jos. A. Bank should be able to earn $175 million in free cash flow, or a 25% yield on the current enterprise value.   

Unfortunately, the Company has chosen not to explain any of this to the investment community, and instead is focused on finding acquisitions for "long-term growth." The best investment that the Company can make today for its long-term shareholders is to repurchase shares at today's stock price, which is incredibly depressed as a result of a ballooning corporate governance discount in an information vacuum. Repurchasing shares with all of the cash on the balance sheet should increase normalized earnings close to $6 per share.

In our view, the paths to restoring the Board's relationship with shareholders as well as the market's confidence in the Company are straightforward. 

- Immediately take action to de-stagger the Board and add a significant number of truly independent directors who have no prior connections to the current Board members or management.

- The Company should immediately return all of its cash to shareholders, preferably through buy-backs, as long as the stock continues to suffer from its severe discount. Further, the Company should outline a policy for returning all future cash flows to investors.

- The Board should rework its compensation practices to align management incentives more closely with the creation of long-term shareholder value. While business has struggled for the past 18 months, the executive team has done an admirable job operating the business over the long term. We believe that most shareholders would gladly reward the CEO, Neal Black, and other executives with cash and stock bonuses worth substantially more than current levels if they succeed in creating real value.

- The Company should terminate Mr. Wildrick's consulting arrangement and use the cash savings to build a legitimate investor relations department. The Company's current communication strategy is designed to impede, rather than encourage, investors from becoming shareholders. The Company also has no corporate presentation, does not attend investor conferences, does not communicate with sell-side analysts, and will not interact with current or prospective investors. As a result, prospective investors are at an information disadvantage compared to shareholders who completed their initial diligence prior to the Board's change in communication policy. This severely limits the pool of possible investors and negatively impacts the stock price. A professional investor relations team would quickly correct this problem and help to restore transparency to the business.

We strongly believe that with these actions, the Company's stock could be worth more than $70 per share today, which better reflects the solid business that has been built over the last two decades. 

We remind you that as directors, you owe a fiduciary duty to the shareholders, the true owners of the Company. Your recent actions and general approach towards shareholders indicate that you have been neglecting your duties as a Board. We urge you to immediately act to restore shareholder confidence by following the suggestions outlined in this letter. Otherwise, we believe it is likely that shareholders will hold the Board accountable and seek change by replacing the Chairman at the 2014 annual meeting. Once again, we encourage our fellow shareholders to voice their displeasure with the Board and let it be known that change is needed immediately. 



Ed Bosek
BeaconLight Capital LLC

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