crocs inc. (crox) pitch

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Crocs, Inc. Ticker: CROX | Price: $13.47 Recommendation : Buy below $15.00 August 13 th , 2013 Geoffrey Horton From The Maker of Those Shoes Crocs is a footwear designer, manufacturer, and distributor that found fame a little more than a decade ago with the release of their unmistakable colorful clogs that utilize their patented Croslite technology. The clogs offer the freedom found with sandals and combine it with the therapeutic relief that less hip, podiatrist-approved shoes offer. As quick as everyone and their grandmother had bought a pair, the shoes caught the “ugly” disease and the general public moved on. That initial success has allowed Crocs to survive, though, and experiment with new designs that appeal to an ever-changing audience. With a focus now on combining their technology with current fashionable trends, Crocs is showing they can still strive in a post-hype environment. With P/E and EV/EBITDA multiples trading well below competitors like Sketchers and Deckers, revenue expanding at a 4-year CAGR of 15% while managing a 30% increase in the average price of shoes over the same period, a large uptick in demand of new and old products overseas, and a management team willing to stay flexible, I believe the lousy results from last quarter has squeezed the growth premium out of the stock and is now offering a great buying opportunity. Crocs, Inc. (CROX) 2010A 2011A 2012A 2013E 2014E Revenue 790 $ 1,001 $ 1,123 $ 1,245 $ 1,375 $ EBITDA 119 $ 175 $ 183 $ 159 $ 189 $ FCF 80.4 $ 114.7 $ 88.6 $ 82.3 $ 95.7 $ EPS 0.80 $ 1.25 $ 1.46 $ 1.04 $ 1.25 $ Gross Margin 53.8% 53.1% 54.1% 53.3% 53.8% ROE % 18% 23% 21% 20% 24% Market Profile 52-Week High 18.60 $ 52-Week Low 12.00 $ Avg. Daily Vol. 1.5 mm Market Cap 1.23 bn Beta 0.27 P/Sales (TTM) 1.1x EV/EBITDA (TTM) 5.6x P/E (TTM) 11.5x ROE (TTM) 16.9% Source: Company filings and Bloomberg consensus estimates Source: Bigcharts.com

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CROX Long pitch

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Page 1: Crocs Inc. (CROX) Pitch

Crocs, Inc.

Ticker: CROX | Price: $13.47

Recommendation : Buy below $15.00

August 13th, 2013

Geoffrey Horton

From The Maker of Those Shoes

Crocs is a footwear designer, manufacturer, and distributor that found fame a little more than a decade ago

with the release of their unmistakable colorful clogs that utilize their patented Croslite technology. The

clogs offer the freedom found with sandals and combine it with the therapeutic relief that less hip,

podiatrist-approved shoes offer. As quick as everyone and their grandmother had bought a pair, the shoes

caught the “ugly” disease and the general public moved on. That initial success has allowed Crocs to

survive, though, and experiment with new designs that appeal to an ever-changing audience.

With a focus now on combining their technology with current fashionable trends, Crocs is showing they

can still strive in a post-hype environment. With P/E and EV/EBITDA multiples trading well below

competitors like Sketchers and Deckers, revenue expanding at a 4-year CAGR of 15% while managing a

30% increase in the average price of shoes over the same period, a large uptick in demand of new and old

products overseas, and a management team willing to stay flexible, I believe the lousy results from last

quarter has squeezed the growth premium out of the stock and is now offering a great buying opportunity.

Cro

cs, In

c. (

CR

OX

)

2010A 2011A 2012A 2013E 2014E

Revenue 790$ 1,001$ 1,123$ 1,245$ 1,375$

EBITDA 119$ 175$ 183$ 159$ 189$

FCF 80.4$ 114.7$ 88.6$ 82.3$ 95.7$

EPS 0.80$ 1.25$ 1.46$ 1.04$ 1.25$

Gross Margin 53.8% 53.1% 54.1% 53.3% 53.8%

ROE % 18% 23% 21% 20% 24%

Market Profile

52-Week High 18.60$

52-Week Low 12.00$

Avg. Daily Vol. 1.5 mm

Market Cap 1.23 bn

Beta 0.27

P/Sales (TTM) 1.1x

EV/EBITDA (TTM) 5.6x

P/E (TTM) 11.5x

ROE (TTM) 16.9%

Source: Company filings and Bloomberg consensus estimates

Source: Bigcharts.com

Page 2: Crocs Inc. (CROX) Pitch

Background

Founded in 1999, Crocs launched their first clog line in 2002 at a boat show in Florida. Quickly

finding success, Crocs purchased the Canadian company that held the patent for Croslite, the

rubbery-type material found in most Crocs products, in 2004 and finally initiated their IPO in early

2006. The company has made three acquisitions since, adding an accessories component to their

products as well as beefing up their internal design group with an established team in Italy. The

U.S. Ergonomics approved shoes are sold in over 90 countries today.

Business Overview

Their footwear products produce most of the revenue, while accessories and apparel historically

account for 3% to 4% of total sales. The company sells products through two channels: wholesale

(62%) and directly to the consumer through retail stores (30%) and the internet (8%). As seen in

Exhibit 1, the largest increase in revenue by region has come from Asia, where the wholesale

business accounts for most of the sales. Recent currency devaluations have hurt sales in Japan,

though, where margins have historically been the highest out of all the regions. Growth in China,

however, has buffered the setback and I fully expect this trend of a growing customer base

overseas to continue as customers over there remain responsive to both new and old products.

Due to the sheer volume of sales, clogs have historically made up most of the product sold through

the wholesale channel. With the original clog line’s sales decreasing from 25% of revenue in 2008

to less than 10% in 2010 and sales to adults accounting for over ¾ of total sales, though, Crocs

needed a change. Their focus since has been investing in new, fashionable products that still utilize

their Croslite technology. Some regions are now seeing 50% of their revenue come from newly

introduced footwear. As Crocs transitions their focus to new products, which require consumers to

get up and close with the shoes, the retail business has been heavily invested in all across the

world. The year 2013 alone will have a total of 70 to 90 net stores open. I expect Crocs to focus

primarily on the retail business in America and Europe for the next few years, while continuing to

introduce their new products to the already strong wholesale channel.

August 13th, 2013

Cro

cs, In

c. (

CR

OX

)

$-

$50,000

$100,000

$150,000

$200,000

$250,000

$300,000

$350,000

$400,000

2009 2010 2011 2012 2013

Americas Asia Europe

Exhibit 1

Revenue by region in Q2, 2009-2013

Source: Company Reports

10% CAGR

11.6% CAGR

19.1% CAGR

$-

$50,000

$100,000

$150,000

$200,000

$250,000

2009 2010 2011 2012 2013

Wholesale Retail Internet

Source: Company Reports

Exhibit 2

Revenue by channel in Q2, 2009-2013

Page 3: Crocs Inc. (CROX) Pitch

While new product sales have been successful thus far (accounting for ~35% of revenue), this last

quarter shows that earnings can be volatile if the weather does not cooperate. Crocs received less

than anticipated at-once business from wholesalers since weather was colder than expected in

spring. Not wanting to carry over the products into late 2013 and 2014 spring/summer season,

management used discounting to reduce inventory by $161mm (down $11.6mm from 2012). The

company did note, however, that sales significantly increased later in the quarter as things warmed

up and all regions, except Japan, achieved positive same-store sales growth. Management expects

revenues of $300mm and EPS to be between $0.20-$0.23 for the next quarter.

Competitors

As the retail business for Crocs grows, comparisons to Sketchers and Deckers are becoming more

prevalent. They all sell footwear products, though they tend to excel in selling different types of

shoes. Sketchers is a heavy-hitter in the athletic sporting shoes market, while Deckers is known for

their winter UGG boots. All three companies derive roughly 65% of revenue through a wholesale

channel, both domestically and internationally. The latest quarterly results for each showed that

while the retail segment was up an average of 15%, Crocs was the only company to see positive

growth in the wholesale channel in all regions. Looking at Deckers specifically, their summer

sandal lines also saw backlog issues due to poor weather. They even saw a big decline in the

revenue from their boots as compared to last year and are struggling to create products that work

well between the transitioning of seasons. Sketchers improved their margins and grew revenue

above expectations mostly due to their men and women’s sportswear line. Their only footwear line

seeing negative growth came from the sales of children shoes.

I believe the weakness shown by Deckers is similar to Crocs’ situation. However, not considering

weather issues, Crocs’ sales of new and old products have been much better and are still growing.

Sketchers is a good example of what wear-all-the-time footwear can do in terms of sales, but they

do not appeal to children the same way Crocs does. Furthermore, Crocs is planning for the release

of their own athletic shoe line in later 2013. This, along with other planned non-seasonal footwear,

will provide the company greater stability from quarters like this.

Cro

cs, In

c. (

CR

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)August 13th, 2013

Exhibit 3

Revenue versus average footwear price, 2010-2013

$-

$5.00

$10.00

$15.00

$20.00

$25.00

Q2 2010 Q2 2011 Q2 2012 Q2 2013

$-

$50,000

$100,000

$150,000

$200,000

$250,000

$300,000

$350,000

$400,000

Revenue Avg Footwear Selling Price

Source: Company Reports

Page 4: Crocs Inc. (CROX) Pitch

Crocs currently trades at discounted levels across a number of multiplies when compared to

competitors (DECK, SKX, SHOO, WWW, VFC). I believe this is due to a lack of faith that the

company’s transition will actually pan out and other more established companies won’t continue to

grow market share. Seeing that the company has already shown it can succeed with newer

products and confident it can continue to do so, I believe the shares are undervalued by 30%. Once

non-seasonal products have been introduced and better plans for weather are in place, the stock

could trade at 20x earnings, or between $17-$18 a share. Subtracting out cash, you could pick up

the company for a measly 8.7x current earnings today.

Observations

To better understand what consumers prefer to wear for the summer months, I conducted an hour

long study in a high traffic area of Central Park and counted the different types of footwear people

were wearing as they walked by. While New Yorkers are some of the most unique individuals in

the world, the diversity of footwear was lacking. Of the hundreds of women that walked by, an

overwhelmingly large majority wore sandals with varying strap designs. Men, for the most part,

wore tennis shoes and sandals. Children wore a variety of footwear, though I found them to be the

biggest users of the originals clogs. I only found three adults that dared to wear the shoes.

While the study was far from scientific, it gave me insight into current trends and provided me an

understanding of what Crocs should be designing and marketing. To see if the shift in focus of

products was actually taking place, I visited the SoHo Crocs store. The trendy 2-story building had

an immediate focus on new products for the summer before I even walked in the store. Also, the

section in front of the door was solely dedicated to new products, a majority of which were

women’s sandals with different strap designs. About 50% of customers were located in this area.

Cro

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)August 13th, 2013

Exhibit 4

Storefront display of new sandal products

Exhibit 5

Storefront display of new women’s summer footwear

P/E P/Sales EV/EBITDA ROE % Cash/Share Debt/Equity

CROX 11.5x 1.1x 5.6x 16.9% $3.16 0.38

SKX 51.5x 0.8x 11.7x 15.7% $6.62 0

DECK 18.1x 1.4x 9.4x 15.7% $1.43 0.49

Industry Avg. 25.7x 1.3x 10.9x 17.3% $4.03 0.80

Page 5: Crocs Inc. (CROX) Pitch

As I walked through the first floor, I noticed the children’s section in the back fully stocked with

clogs and accessories hanging on appropriately sized racks. With children sales accounting for ¼

of total revenue and from what I saw in Central Park, it made sense. On the second floor, I found a

section specifically dedicated to new products for men. This was the most empty section in the

store in terms of people. In the back of the 2nd floor, I finally found the mountain of adult-sized

clogs. It was fairly obvious when someone came to the store to only purchase a pair of these

(which was few).

While trying to make sure I was not labeled a stalker by store employees, I learned a lot about the

store’s product placement. Considering the overall revenue breakdown, as well as the emphasis on

new designs, the store’s layout flowed nicely. My biggest concern came, though, from the

overabundance of stock in clogs. As seen in the pictures above, it seemed like things had barely

been touched in the adult section, even with a new celebrity-endorsed clog. I also felt alienated as

a man since the front of the store only showcased women’s summer wear and unisex sandals. A

customer may have never known they sold men’s footwear had they not gone upstairs.

Risks

The largest risk lies in the ability to keep consumers adopting all of these new products, especially

the non-summer footwear. A company that relies on innovation to drives sales can be severely

damaged by a hiccup in a new product line. Crocs received fame because of their clogs and may

have a branding issue with those consumers who do not realize Crocs has more to offer.

I believe management is also having to consider how much longer they want to continue pushing

for the die-hard clog fans. Though total sales of all of the clog variations make up 47% of revenue

today, the inventory for the products can quickly become a hazard to the bottom line when weather

is poorer than expected.

Another concern lies in the fact that there are many competitors in this space that offer similar

products. While Crocs can be differentiated by their Croslite technology, it might not be enough if

a competitor’s shoes are a little more fashionable and can be worn all year round.

Cro

cs, In

c. (

CR

OX

)August 13th, 2013

Exhibit 6

Children shoe section of SoHo store

Exhibit 7

Adult shoe section of SoHo store