You have to give credit where it's due and Helen Of Troy (Nasdaq:HELE) management (which means CEO and founder Gerald Rubin) is absolutely willing to take chances to grow this company. Once a licensor of low-price/low-prestige personal care brands, and a maker of fairly low-end consumer care electrics, such as curling irons, Helen of Troy has increasingly built itself into a legitimate player in a variety of personal and houseware products. Although the company's rising debt is likely to magnify what has been a very volatile company to begin with, there looks to be value here for risk-tolerant investors.
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A Pretty Good Third Quarter
Helen Of Troy beat expectations for the fiscal third quarter, a welcome change from a recent "mini-trend." Investors should note, though, that acquired revenue and expenses are still impacting performance and it is often more difficult for analysts to accurately forecast results in that environment. In other words, take the beat with a small grain of salt.
Reported revenue growth came in at better than 65% and management's own guidance on pro forma results suggests organic growth was a more modest 3%. Housewares led with 4.7% growth, Health/Home was up about 3.5% on a pro forma basis, but the large personal care business was up just 1.7%.
Profits are taking a hit from the company's deals, as the acquired businesses have lower margins than Helen of Troy's established operations; gross margin fell nearly six points. To management's credit, though, operating income rose 33% on a reported basis and EBITDA rose 38% The operating margin erosion was limited to just about three points; a very solid performance. (For related reading, see A Look At Corporate Profit Margins.)
Should Investors Worry About Personal Care?
A few analyst surveys have been suggesting that trends in the personal care/salon space have not been moving in Helen's favor. A quick look at the stock performance of Sally Beauty (NYSE:SBH) and Ulta (Nasdaq:ULTA) doesn't exactly support that conclusion, however. So the question may really be more about whether Helen of Troy is losing share. Certainly they have formidable competition; in areas like deodorants, for instance, Unilever (NYSE:UL) and Procter & Gamble (NYSE:PG) hold significant market share with brands like Axe and Secret.
Perhaps the issue also relates to brand positioning; Helen of Troy is strongest in retailers like Wal-Mart (NYSE:WMT) and Sears Holdings (Nasdaq:SHLD) and doesn't necessarily attract those impulse/image buyers.
Costs a Concern as Well
Look through HELE's 10-K and it's pretty clear that China is very important to this company. Upwards of 75% of Helen of Troy's COGS trace back to China. Much has been made of Chinese wage inflation, though, and the U.S. Congress clearly wants to see the yuan move in a direction that would not be so favorable to Helen of Troy. (For related reading, see What You Should Know About Inflation.)
A Bold Builder
As I mentioned in the open, investors have to credit Rubin for taking bold steps to build this business. Way back in the day, he was willing to pay P&G a substantially higher-than-normal royalty to get the Vidal Sassoon license and he has not been afraid of major deals since then (OXO and Kaz make good examples).
The company's latest deal, the acquisition of the PUR water filtration line from P&G, is a classic. This isn't the category leader (that would be Clorox's (NYSE:CLX) Brita), but Helen of Troy is paying a reasonable price (1.5x estimated 2012 sales, or $160M) for a fairly upscale brand and taking on no additional headcount from P&G.
The Bottom Line
The lack of momentum in personal care is an issue, but the company is working around this by building out other faster-growing parts of the business. There's reason for optimism here; OXO, for instance, already enjoys a prominent place at retailers like Target (NYSE:TGT) and Bed, Bath & Beyond (Nasdaq:BBBY), and the KAZ and PUR acquisitions should offer good leverage in time.
The biggest problem with Helen of Troy right now is that debt; it really does drain value out of a DCF model, even though it looks relatively manageable on an operating basis. Historically it has been a good idea to buy this name on dips, but the stock is fairly close to its 52-week high. Keep this one on a watch list; there's value today, but buying near highs has been a bad decision in the past. (For more on DCFs, see Taking Stock Of Discounted Cash Flow.)
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At the time of writing, Stephen Simpson did not own shares in any of the companies mentioned in this article.