While 2013 has been a very strong year for many consumer stocks, retailers have quite noticeably not gone along for the ride. Just as nature abhors a vacuum, private equity won't let bargains hang around for long and the sudden interest of these investment groups in the retailing sector ought to have investors reconsidering their own feelings about the sector. Although it is certainly true that private equity investors make mistakes and overpay, acquisition interest could help the sector attract a little interest nevertheless.

SEE: Key Players In Mergers And Acquisitions

A Streak Of Deals
Several relatively well-known retailers have seen private equity swoop in and make offers they can't refuse in 2013.

Hot Topic (Nasdaq:HOTT) got the ball rolling when it accepted a $600 million buyout offer from Sycamore Partners. At $14 per share in cash, Sycamore paid a 30% premium and roughly nine times trailing EBITDA for a retailer that had seen several years of frighteningly disappointing performance perform Lisa Harper stepped in and righted the ship. It's also worth mentioning that Sycamore bought Tablots (another long-struggling retailer) last year for just under $400 million in cash.

Then we had the True Religion (Nasdaq:TRLG) deal – TowerBook Capital Partners stepped up and offered $825 million for this maker of high-end (and, at one time, extremely popular) jeans. Although the one-day premium here was much smaller (about 8%), the bid price of $32 was more than 50% higher than True Religion's share price at the time management announced that it was exploring a sale. Given the cash on True Religion's balance sheet, this deal valued the company at more than seven times trailing EBITDA.

Last and most recent, Rue21 (Nasdaq:RUE) announced this morning that it had reached an agreement to sell itself to Apax Partners (an investor in the company before its IPO) for $1.1 billion, or $42 per share. That represents a 23% premium to Tuesday's close and a roughly nine times multiple to trailing EBITDA.

SEE: What Investors Can Learn From M&A Payment Methods

But Wait, There's More
While Rue 21 is the most recent company with an announced deal in hand, it's likely not the last. Saks (NYSE:SKS) shares spiked earlier this week on the news that the company has hired an investment banker to pursue a sale of the company. It is also generally known that the private equity consortium that owns Neiman Marcus is looking to sell, and there have been stories about Gap (NYSE:GPS) wanting to sell Old Navy for years now.

The Push-Pull Of Retailers
At first glance, it's not hard to see why regular investors are generally staying away from this sector. Comp-store growth trends have not been very strong lately, and the general expectation for 2013 is that most specialty apparel retailers will struggle to show much of any comp-store growth this year.

And it's not just the short-term that has some people worried. Discounters like Wal-Mart (NYSE:WMT), Target (NYSE:TGT), and Kohl's (NYSE:KSS) continue to try to improve their apparel assortments and draw traffic from the malls. At the same time, much cheaper “fast fashion” retailers like H&M (OTC:HNNMY), Fast Retailing (OTC:FRCOF), Inditex's Zara, and Forever 21 continue to gain ground and expand in the U.S.

On the other hand, not all retail is created equal. Brands still matter, and there are plenty of customers who will pay $40 or $50 for a pair of jeans, even if H&M sells a comparable pair for half as much. At the same time, online sales offer a growth opportunity for many of the companies in this sector, while more efficient supply chain and merchandising management allows for better margins (or the option of “reinvesting” that margin into more competitive prices).

SEE: The 4 R’s Of Investing In Retail

Who Else Might Get Noticed?
If private equity is browsing through the retailing sector in earnest, there could still be more deals on tap. American Eagle Outfitters (NYSE:AEO) and Aeropostale (NYSE:ARO) have strong (and relatively popular) brand identities and are trading below the recent valuation range for deals. Likewise for Chico's (NYSE:CHS) and Abercrombie & Fitch (NYSE:ANF), though the multiples are a little higher. Not incidentally, all of these companies also have very clean balance sheets, which give the buyers the option of using leverage to enhance returns.

The Bottom Line
It's a bad idea to buy a stock simply on the premise that the company will get a buyout bid. At a minimum, buy a stock that you are willing to live with for its own merits in case such an offer never comes. To that end, both American Eagle and Aeropostale look interesting at today's prices, as does Chico's. While these companies are not looking at fantastic near-term momentum, they are quality companies that should succeed whether they remain independent or attract a private equity buyer looking for another undervalued and under-leveraged retailer.

At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.

Related Articles
  1. Taxes

    Possible Effects Of The Online Retail Tax

    The U.S. Senate has passed a bill that will impose a sales tax on online retailers. Discover how the Marketplace Fairness Act could affect your bottom line.
  2. Fundamental Analysis

    An Evaluation Of Emerging Markets

    Get the full story on this asset class before you write it off as too risky.
  3. Fundamental Analysis

    Valuation Of A Preferred Stock

    Determining the value of a preferred stock is important for your portfolio. Learn how it's done.
  4. Fundamental Analysis

    Equity Valuation In Emerging Markets

    As nations like China, India and others continue to grow, valuing companies from these nations will be important for your portfolio.
  5. Bonds & Fixed Income

    Equity Valuation In Good Times And Bad

    Learn how to filter out the noise of the market place in order to find a solid way of determing a company's value.
  6. Markets

    Investment Valuation Ratios

    Learn about per share data, price/book value ratio, price/cash flow ratio, price/earnings ratio, price/sales ratio, dividend yield and the enterprise multiple.
  7. Stock Analysis

    3 Stocks that Are Top Bets for Retirement

    These three stocks are resilient, fundamentally sound and also pay generous dividends.
  8. Investing News

    Are Stocks Cheap Now? Nope. And Here's Why

    Are stocks cheap right now? Be wary of those who are telling you what you want to hear. Here's why.
  9. Investing News

    4 Value Stocks Worth Your Immediate Attention

    Here are four stocks that offer good value and will likely outperform the majority of stocks throughout the broader market over the next several years.
  10. Investing News

    These 3 High-Quality Stocks Are Dividend Royalty

    Here are three resilient, dividend-paying companies that may mitigate some worry in an uncertain investing environment.
  1. Who do hedge funds lend money to?

    Many traditional lenders and banks are failing to provide loans. In their absence, hedge funds have begun to fill the gap. ... Read Full Answer >>
  2. Can mutual funds invest in private equity?

    Mutual funds can invest in private equity indirectly by buying shares of publicly listed private equity companies, such as ... Read Full Answer >>
  3. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  4. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  5. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  6. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!