The best value stock in our analysts’ best ideas list
Currently 77% undervalued, with a narrow moat.
Mentioned: Hanesbrands Inc (HBI)
The information for the below report was taken from Morningstar's Analyst Report for Hanesbrands HBI, written by Senior Equity Analyst, David Swartz.
Key takeaways for Hanesbrands stock:
- Market conditions aren’t great for underwear but true to the category’s name, replenishment products should again see demand when consumers need to replace clothing items.
- Hanes HBI has managed to carve out a narrow competitive moat with its intangible brand asset, evidenced by a 60% share of the sales in the category, in multiple countries.
- Hanesbrands has invested in premium positioning with its acquisition of Champion, for example, but the most growth may come from improving the efficiency of its leading innerwear business.
Hanesbrands HBI is a multinational clothing company based out of North Carolina that’s currently a five star stock. It’s the parent company for brands like Champion, the Wonderbra, Playtex, mainly innerwear. Australians would be more familiar with Bonds, a subsidiary of Hanesbrands that has a dominant market share domestically.
We view narrow-moat Hanesbrands as attractive, trading well below our $18.80 per share fair value estimate. At 24 January 2024, it was trading at $4.29 - a 77% discount. While the firm has struggled in recent quarters, we think the market has been overly focused on short-term issues, such as the impact of inflation and supply chain challenges, and is underestimating the company's potential for free cash flow generation.
While the firm faces challenges from inflation, slowing demand for apparel, higher interest rates, and a highly competitive athleisure market, we think Hanes' share leadership in replenishment apparel categories puts it in position for improving results after 2023. In May 2021, the firm unveiled its Full Potential plan to expand global Champion, bring growth back to innerwear, improve connections to consumers (through greater marketing and enhanced e-commerce, for example), and streamline its portfolio.
Hanes is also working to improve the efficiency of its supply chain. It has already made progress in this area, having achieved a 15% increase in manufacturing output over the past five years. Hanes, unlike many rivals, primarily operates its own manufacturing facilities. More than 70% of the more than 2 billion apparel units sold by the company each year are manufactured in its own plants or those of dedicated contractors. We believe the combination of strong pricing, new merchandise, and production efficiencies should allow Hanes to return to operating margins above 20% for its American innerwear business by 2026.
Our moat rating is based on Hanes' intangible brand asset. Hanes owns some of the best-known brands in basic innerwear in the United States, which we think has enabled some of its products to achieve good pricing and outsell those of competitors.
Hanes has diversified its brand portfolio and expanded outside the U.S. As mentioned, it has been especially successful in Australia, where Bonds and its other brands have dominant shares. Hanes disposed of noncore European innerwear brands to concentrate on better opportunities.
Hanes' Champion is a popular athleisure brand among younger consumers. However, as it has underperformed of late, Hanes has announced that it is considering alternatives for the brand, including a possible sale. While it would be unfortunate if Champion were sold, such a move would allow the firm to focus on its innerwear operations in the U.S. and Australia.
Hanes' free cash flow to the firm was negative in 2022, but we forecast it will rebound to approximately $770 million in 2023. Aided by this improvement, the firm has reduced its debt to $3.4 billion from $3.9 billion at the end of 2022. Hanes has eliminated its quarterly dividend and intends to use all its available free cash for debt reduction. Given this focus and our expectation for consistent cash generation, we forecast Hanes' debt will decline to $2 billion by the end of 2027. We believe the very low value of Hanes' equity reflects concerns that its cash flow will worsen, but we believe its long-term debt has peaked. Moreover, the firm recently renegotiated its debt covenants, which should eliminate the risk of a violation.