Three-minute pitch #3

A fund goes activist to unlock value in a small apparel company

Yesterday, an activist fund filed a 13D disclosing its ownership in a small, beaten-up apparel company. This involvement comes after the company received an unsolicited bid for its best asset. While the company has multiple business lines, this one business in particular is a real gem.

Given the very low starting valuation and a solid catalyst for the company to sell assets, I believe the shares here look very compelling.

Here’s a quick pitch in the interest of timeliness.

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The opportunity we are looking at today is Delta Apparel (AMEX: DLA). The stock is trading at roughly $9 per share (disclosure: bought some shares today.)

Delta Apparel is a ~$60m micro-cap apparel manufacturer/retailer in the US. The company has ~$170m in net debt including capital leases (the debt matures in 2027 and has light covenants.) This gets us to an enterprise value of ~$230m. Importantly, DLA has tangible assets (inventory, real estate, and A/R) that more than cover all existing liabilities.

DLA has three business lines:

1. Delta Activewear - A commoditized manufacturer of activewear for both regional and global brands as well as direct-to-retail and wholesale markets.

2. DTG2Go - An on-demand, digital garment printing business. DTG2GO works with clients such as Fanatics, Redbubble, etc.

3. Salt Life - A retail brand with cult-like appeal in the Southeastern US. The brand caters to outdoorsy people. This NYT article provides great context.

Business lines 1 & 2 are not great businesses and they are essentially inseparable from one another. The activewear business has been particularly volatile given the tougher retail environment and higher input costs (cotton).

However, as the NYT article points out, the Salt Life brand has a cult-like level of appeal in the Southeast. It’s common to find people with “Salt Life” decals on the back of their vehicles; some fans even get “Salt Life” tattoos! This level of brand affinity is incredibly rare.

Salt Life decal on the back of a truck. From the NYT article.

Now, there are a couple of things that have made this situation interesting.

First, on October 2nd, the company received an unsolicited offer to purchase its Salt Life business. Terms were undisclosed, but the company mentioned that they will be conducting a review of “strategic options” for the Salt Life business given “widespread interest in it.”

Second, Forager Capital and Tim Brog (a notable microcap activist) filed a 13D on October 10, reporting a 4.9% stake in DLA. Notably, Forager is calling for the company to retain the Salt Life business and sell off the legacy activewear division. Furthermore, the fund intends to nominate 4 people to the Board to make sure this is considered. Or, in a sale scenario, to make sure that management sells it for the right price.

13D from Forager Capital - filed on October 10, 2023

What’s interesting is that, despite these two clearly positive events for the stock, the shares have barely moved (ok, they are up ~40% from the low, but still down 70% from 2022), even as it’s looking more and more likely that some value will be unlocked imminently.

So, what is it all worth?

The whole thing is a bit messy given a lack of segment disclosure and recent operational results. So, I will make some big assumptions; bear with me.

First, I will assume that Activewear and DT2GO (business lines 1 & 2) are both worth zero in a liquidation scenario. The company, however, has sufficient tangible assets that if you were to wind down both segments, you could be able to comfortably cover all liabilities (see below) including leases at 100% of the stated cost.

DLA has ~$270m in current assets, mostly made up of a commodity-like inventory (likely worth close to 100c on the dollar). Total liabilities are ~$300m. The company also owns real estate and machinery (PPE) worth $70m at book value (one writeup on VIC states that the company has $60-70m in real estate, but I can’t verify this independently) and an investment worth another $10m at book. So, roughly $350m in assets vs. $300m in liabilities. Let’s assume that there are discounts here, wind-down costs, tax leakage, etc. We will call it a wash and end up at zero, a nice starting point.

This leads us to Salt Life, which, would be (theoretically) unencumbered by debt and liabilities. Salt Life is currently at ~$60m in revenue and has a low-teens operating margin. Let’s assume that in the next 12-18 months they can grow sales from a combination of store openings and same-store-sales growth. At ~8 store openings (roughly $800k per store) and a low-single-digit (LSD) same-store-sales growth, you get to ~$68m in sales; call it $70m for simplicity. At a ~15% EBIT, we have $10.5m in operating profit. DLA is run-rating at $10m of unallocated corporate expenses. I assume that Salt Life takes up 20-30% of these. We will call it $2.5m. So on its own, SL would be generating ~$8m in EBIT. At a 15x pre-tax multiple (20x EPS), Salt Life could be worth $120m or so. With 7m shares outstanding, that is a value of ~$17 per share. At 20x EBIT, Salt Life would be worth $24 per share. The current price of DLA shares is $9.

While these might seem like high multiples for a retail company, it’s important to note that: 1) the brand has incredible appeal (see earlier), and 2) there is still considerable whitespace for store expansion, as SL has a footprint of only 25 stores. In the right hands, SL could be a real winner.

So putting it all together, we have two assets that should be worth enough dead to cover all liabilities and one asset that, on its own, is worth perhaps double the current market cap. I know this hasn’t been an exercise in precision, but it’s hard for me to see how you would lose much, if any money. If you think SL is a mediocre asset only worth 10x EBIT, that’s still $11 per share. And remember, we give essentially no credit to the operating businesses outside of SL. Activewear is likely not worth much, but perhaps there is some value to the digital printing business.

In the next few weeks, we are likely to get: 1) an outcome as to the potential sale of Salt Life (perhaps another bid?), 2) more news about the proposed BoD candidates, and 3) more engagement from Forager Capital.

For now, I like the risk/reward from here. LONG.

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A few resources that might be helpful

• VIC writeup on DLA by Rulon Gardener

• Christopher Lee’s pitch on DLA

• FY22 Annual Report

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Thanks so much for reading! Let me know if you have any thoughts, questions, or pushback in the comments below.