INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

AUGUST 14, 2018 This article was written with Stephen Barnes from The Investor’s Podcast

IntroductionHanesbrandsInc.isaleadingmanufacturerandmarketerofeverydaybasicinnerwearandactivewearapparelintheAmericas,Europe,Australia,andAsia/Pacificundersomeoftheworld’smostwell-knownapparelbrands,includingHanes,Champion,DKNY,Maidenform,Playtex,andWonderbra.Unlikemostapparelcompanies,HanesbrandsInc.primarilyoperatesitsownmanufacturingfacilities.Itsproductsaremarketedtoconsumersthroughmassmerchants,mid-tierretailersanddepartmentstores,specialtystores,ande-commercesites.Hanesbrandsalsooperatesitsownconsumer-facingoutletstores,retailstores,ande-commercesites.

Thecompany’scurrentmarketcapisabout$6.7Billion,anditsenterprisevalue(i.e.,marketcap+totaldebtnetofcash)isapproximately$11Billion.Itsrevenuesandfreecashflowsduringthepreviousfiscalyearwerea$6.5Billionand$569Millionrespectively.Thecompany’scommonstockhasfluctuatedbetweenahighof$25.73andalowof$16.38overthepast52weeksandcurrentlystandsataround$18.58.IsHanesbrandsInc.undervaluedatthecurrentprice?

Figure1:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

The Intrinsic Value of Hanesbrands Inc.TodeterminetheintrinsicvalueofHanesbrandsInc.,we’llstartbylookingatthecompany’shistoricalfreecashflow.Acompany’sfreecashflowisthetrueearningswhichmanagementcaneitherreinvestforgrowthordistributebacktoshareholdersintheformofdividendsandsharebuybacks.BelowisachartofHanesbrands’freecashflowforthepasttenyears.

Asonecansee,thecompany’sfreecashflowhasgrownoverthelasttenyearsfromlessthan$0in2008to$569millionin2017,withsomelumpinessbetweenduetolargeincreasesininventoryinsomeyears.Overthelastnineyears,from2009to2017,freecashflowgrewatacompoundedannualgrowthrate(CAGR)of8.9%.TodetermineHanesbrandsInc.’sintrinsicvalue,anestimatemustbemadeofitspotentialfuturefreecashflows.Tohelpusbuildthisestimate,belowwehavecalculatedanddisplayedanarrayofpotentialoutcomesforfuturefreecashflows.

Whenexaminingthearrayoflinesmovingintothefuture,eachonerepresentsacertainprobabilityofoccurrence.Theupper-boundlinerepresentsa5%growthratewhichislessthanthe8.9%annualgrowthachievedoverthepastnineyearsascompaniescanseldommaintaingrowthratesabovethegeneralrateoftheeconomyforprolongedperiods.This5%growthratehasbeenassigneda25%probabilityofoccurrenceto

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

accountforanumberoffactorsincludingfiercecompetitionandthemovefromretailtoe-commerce(i.e.,the“Amazon”effect).HanesbrandsInc.stillderivesthemajorityofitsrevenuefromretailers(althoughitisworkinghardtogodirect-to-consumerviavariouse-commercechannelsincludingAmazon).

Themiddlegrowthlinerepresentsa3%growthratetomatchthecurrentrateofa10-YearTreasuryNote,whichisagoodproxyforprojectedGDPgrowthoverthenexttenyears.Hanesbrandsislikelytogrowatleastasfastastheoveralleconomy.Thisscenariohasbeenassigneda60%probabilityofoccurrence.

Thelowerboundlinerepresentsa-2%growthrateinfreecashflowandassumesthatthecompanywillshrinkslowlyovertime.Thisscenariohasbeenassigneda15%probabilityasitisnotverylikely,butcertainlypossibleifappareltrendschange,competitionintensifies,andbrandequityerodesoverthenexttenyears.

Assumingthesepotentialoutcomesandcorrespondingcashflowsareaccuratelyrepresented,HanesbrandsInc.mightbepricedata9.1%annualreturnifthecompanycanbepurchasedattoday’spriceof$18.50.We’llnowlookatanothervaluationmetrictoseeifitcorrespondswiththisestimate.

BasedonHanesbrandsInc.’scurrentearningsyield,whichistheinverseofitsEV/EBITratio,thecompanyiscurrentlyyielding6.90%;thisisabovetheConsumerDiscretionarySectormedianaverageof6.40%suggestingthatthecompanymaybeundervaluedonacomparablebasis.AnalystsprojectthatHanesbrandsInc.willhaveanearningsyield(EBITyield)of8.9%basedonnextyear’searningscomparedto7.4%fortheConsumerDiscretionarySector.Finally,we’lllookatHanesbrandsInc.’sfreecashflowyield,ametricwhichassumeszerogrowthandsimplymeasuresthefirm’strailingfreecashagainstitscurrentmarketprice.Atthecurrentmarketprice,HanesbrandsInc.hasafreecashflowyieldof6.9%.

Takingallthesepointsintoconsideration,itseemsreasonabletoassumethatHanesbrandsInc.iscurrentlytradingatadiscounttofairvalue.Furthermore,thecompanymayreturnaround9.1%annuallyatthecurrentpriceiftheestimatedfreecashflowsareachieved.Now,let’sdiscusshowandwhytheseestimatedfreecashflowscouldbeachieved.

The Competitive Advantage of Hanesbrands Inc.HanesbrandsInc.hasvariouscompetitiveadvantagesoutlinedbelow.

• BrandValue.OneofHanesbrandsInc.’smostpowerfulcompetitiveadvantagesisitsbrandvalue.HanesbrandsInc.ownsandsellsunderseveralindustry-leadingandtrustedbrandsincludingHanes,Champion,DKNY,Bali,Maidenform,Playtex,andWonderbra.Youmayevenrecalltheslogan,“Justwait’llwegetourHanesonyou”andthatMichaelJordanhaslongendorsedtheHanesbrand.Manyofthesebrandshaveleadingmarket-sharepositionsinkeycategoriesinvariousregionsoftheworld.

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

Figure2:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

ForacompetitortochallengeHanesbrandsInc.’scompetitivebrandposition,theywouldhavetodeployalargeamountofcapitalandresourcesforadvertisingandcelebrityendorsements.Asshownintheslidebelow,HanesbrandsInc.hasspentconsiderableamountsonmarketingitsbrands($750millionplusfrom2014through2017).

Figure3:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

HanesbrandsInc.’svariousbrandshelptodifferentiatethecompany’sproductsandlikelygrantitsomepricingpowerwithconsumers.Thispricingpowerisonefactorthatallowsthecompanytooutperformtheindustryonanumberofkeymetrics.

• ScaleAdvantagesandSophisticatedSupplyChain.HanesbrandsInc.hasdevelopedextensivemanufacturingcapabilitiesthatenableittoproducequalityproductsandataneconomicalprice.Thecompany’sglobalsupplychain(with50ownedfacilities)allowsittomaximizelow-costproductionandinternationaldistribution.Becausemostfacilitiesarewhollyownedandoperated,thecompanyhasbeenabletodevelopexpertiseinimprovingmanufacturingprocessesandtechniquesallthewayfrominitialdesigntodistribution—whichenablesthemtofindthelowest-costproductionmethodsfornewproductinnovations.Inotherwords,thecompany’sproductionprocessisasmuchapriorityasthenewproductitself.

Figure4:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

HanesbrandsInc.’ssuperbmanufacturingcapabilitiesalsoallowthecompanytodeliverhighreturnsonacquisitions.HanesbrandsInc.hasbeenabletoacquireotherapparelcompanies(e.g.,MaidenformandDBApparel)andcutcostsbyintegratingtheirmanufacturingneedsintoitsownlow-costmanufacturingfacilitiesandsupplychains.GiventhesuccessHanesbrandsInc.hasachievedinintegratingprior

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

acquisitions,aswellasitsconsistentflowofdeals(aboutoneortwoperyear),acquisitionscouldbecomeacoredriverofreturnsforshareholdersgoingforward.Althoughthereisalwayssomeriskinmakingacquisitions,thecurrentmanagementteamhasshownthatitiscapableofexecutionandfutureacquisitionscouldbeawaytonotonlyleverageitsmanufacturingplatformanddrivecostsavingsbutalsotogainexposuretonewhigh-growth,high-marginproductlines.

Figure5:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

Hanesbrands Inc.’s RisksNowthatHanesbrandsInc.’scompetitiveadvantageshavebeenconsidered,let’slookatsomeoftheriskfactorsthatcouldimpairourassumptionsofinvestmentreturn.

• Theapparelindustryissubjecttofluctuationsinconsumerspending,commoditypricefluctuations(suchascottonprices),andretailershrinkageandbankruptcies.Thatsaid,Hanesbrandsisprobablyinabetterpositionthanmostplayers,asmuchofitsbusiness(38%ofHanesbrandsInc.’sbusinessin2017)isdrivenbymoderatelypricedreplenishmentinnerwearproductsandalsobecauseofitsverticallyintegratedsupplychain(manufacturinganddistribution).

• Competitionintheinnerwearandactivewearcategoriesisfierce,andthepricingpowerHanesbrandsInc.canexpecttoachievefromitsbrandnamesissomewhatlimitedasconsumerslikelyhavealimitedthresholdforbrandpremiumpricinggiventheavailabilityofalmostidenticalproductsfromotherstrongbrands.CompetitorsincludeGildan,FruitoftheLoom,Jockey,Warnaco,andVictoria'sSecret.Additionally,HanesbrandsInc.’sbusinessissensitivetochangesinretailers'privatelabelstrategies,whichwerecentlysawwhenTargetdecidedthatitwillnotrenewitscontractfortheexclusiveC9byChampionapparellinein2020.Targethasdecidedthatitisgoingtosellitsownprivatelabelproducts.Overthelasttwelvemonths,C9generated$380millioninrevenue,whichis5.7%ofHanesbrandsInc.'stotalrevenueduringthesameperiod.

• Finally,eventhoughmostconsumersgenerallyreplenishinnerwearitemswhentheeconomyisdoingpoorly,consumersmaydemandlowerpricesorbewillingtotradedowntoadifferentbrandordelaypurchaseswhentimesgetreallytough.Thus,inaneconomicdownturn,marginscouldexperiencepressureifitemsmustbediscountedtosellthroughinventory.

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

Opportunity CostsWheneveraninvestmentisconsidered,onemustcompareittoanyalternativestoweighuptheopportunitycost.Atthetimeofwriting,10-yeartreasuriesareyielding2.98%.Ifwetakeinflationintoaccount,therealreturnislikelytobecloserto1%.TheS&P500IndexiscurrentlytradingataShillerP/Eof32.1whichis89.9%higherthanthehistoricalmeanof16.8.Assumingreversiontothemeanoccurs,theimpliedfutureannualreturnislikelytobe-2.8%.HanesbrandsInc.,therefore,appearstoofferamuchbetterreturnforinvestorsatpresent,butotherindividualstocksmaybefoundwhichofferasimilarreturnrelativetotheriskprofile.

Macro Factors Investorsmustconsidermacroeconomicfactorsthatmayimpacteconomicandmarketperformanceasthiscouldinfluenceinvestmentreturns.Atthetimeofwriting,theS&PispricedataShillerP/Eof32.1;thisis89.9%higherthanthehistoricalaverageof16.8suggestingmarketsareatelevatedlevels.U.S.unemploymentfiguresareata30yearlowsuggestingthatthecurrentbusinesscycleisnearingitspeak.U.S.privatedebt/GDPcurrentlystandsat199.6%andisatitshighestpointsince2009whenthelastfinancialcrisispromptedprivatesectordeleveraging.

Summary HanesbrandsInc.iscompetitivelypositionedgivenadvantagesthataredifficultforcompetitorstoreplicate:(1)well-knownandrespectedbrandsoftenwornbygenerationsand(2)scaleadvantagesandamostly-ownedextensivesupplychain.Analystsbelievethecompanyispoisedtopostsignificantoperatingmargingrowththroughrecognitionofsynergies($85millionin2018and2019)followingarecentstringofacquisitions,$100millioninnetcostsavingsfromProjectBooster(acost-savingplanannouncedbymanagementlastyear),and$30million-$40millioninmanufacturingefficiencies.

Figure6:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

Despitetheprecedingadvantages,oneshouldacknowledgethatHanesbrandsInc.'dbusinesshascomeunderpressureasoflatewiththemoveawayfrombrick-and-mortarretailers(retailershavebeenhithardwithbankruptcies,andmanyarereducingstorecounts)towarde-commercesiteslikeAmazon.HanesbrandsInc.’sonlinesalesamountedtoonly11%ofHanesbrandsInc.’srevenuegloballyin2017,butthisnumberisgrowing.Therearealsorisksstemmingfromchangesinretailerprivatelabelstrategies(whichwasdemonstratedbyTarget'splannottorenewitsexclusivecontractforC9byChampionlinein2020).

Thatbeingsaid,HanesbrandsInc.mayhaveapathbacktosustainedgrowthasitisdistributionchannelagnostic,andthesetrends(moveawayfrombrick-and-mortartoe-commerceandprivatelabeladoption)mayonlyaffectnear-termresultsandthenear-termstockprice.Thishasperhapscreatedanattractiveentrypointforinvestorsasthemarkettendsto(atleastintheshortrun)weighnear-termperceptionmorethanlong-termprospects.Thetransitiontoe-commerceisproceedingwell,withtheonlinerevenuegrowthratehitting22%inthefourthquarterof2017.Onlinesalesareexpectedtoincreaseasapercentageoftotalrevenue—specifically,analystsbelieveitcanreachmid-teenspercentageoftotalsalesin2018,upfrom11%in2017).Abrightspothasbeenthecompany’sChampionbrand,whichgrewatahealthy20to30%year-over-yearclipineachofthepastfourquarters.Anotherbrightspothasbeenitsgrowthininternationalmarkets,whichhasgrownfrom11%ofthecompany’sbusinessin2013to32%in2017.

Figure7:Source:HanesbrandsInc.InvestorDayslidedeckpresentedonMay15,2018.

Withrespecttoshareholderfriendliness,HanesbrandsInc.hasbeenreturningvaluetoshareholdersintheformofdividendsandsharerepurchases.Infact,HanesbrandsInc.returnedatotalof$1.9billionincapitaltoshareholdersintheformofdividendsandsharerepurchasesduringtheten-yearperiodbetween2007and2017.Furthermore,overthepast2.5years(fromQ32015throughQ12018),thecompanyhasreduceditssharecountby10%(fromjustover400milliontoabout360million).

INTRINSIC VALUE ASSESSMENT OF

HANESBRANDS INC. (HBI)

Figure8:Source:Stockrow.com

Insummary,HanesbrandsInc.isasolidplayerinafairlystablepartoftheapparelindustry.Itssharesaresellingatareasonablepricebasedonitsprospectsforthefuture.Indeed,basedonconservativeassumptionsweusedinthefreecashflowanalysisabove,Hanesbrandsmayreturnaround9.1%toshareholdersannuallyifpurchasedthecurrentmarketpriceof$18.50.

Disclaimer:TheauthorofthisarticleislongHBIatthetimeofwriting.

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