FBR Fund Pushes Case That 99 Cents Only Offer Too Low
11 Abril 2011 - 1:06PM
Dow Jones News
A mutual fund run by FBR Capital Markets Corp. (FBCM) on Friday
pressed its case that the value of 99 Cents Only Stores (NDN) is
"considerably in excess" of the $19.09-per-share buyout offer made
last month by retail investor Leonard Green & Partners LP and
the dollar-store chain's founding family.
In a letter to the 99 Cents Only board of directors, dated
Friday and disclosed in a Monday filing with the Securities and
Exchange Commission, the co-managers of the FBR Focus fund cited
the company's opportunity for margin expansion, untapped real
estate value, untapped pricing power and its potential to expand
the chain, both in the four states it currently serves and
beyond.
Further, the portfolio managers said 99 Cents Only would be
valued at $21.75 to $23.50 a share using the valuation multiple of
a transaction proposed in February by which billionaire Nelson
Peltz's Trian Fund Management offered to buy larger competitor
Family Dollar Stores Inc. (FDO). FBR noted that Family Dollar's
board unanimously rejected the bid, of $55 to $60 a Family Dollar
share, or what FBR said is 8.5 to 9.3 times enterprise value to
Wall Street analysts' consensus adjusted forward earnings
estimates, for "substantially" undervaluing Family Dollar.
Before the company's ill-fated expansion attempts several years
ago, most notably in Texas, 99 Cents Only enjoyed 13% to 15%
operating margins, FBR said, and its margins are only now starting
to recover, going from slightly negative in fiscal 2008 to 8.2%
during the most recently reported 12 months. The California-based
company also has "materially higher sales per square foot and store
network density than any of its publicly traded dollar store
peers," FBR added.
FBR said 99 Cents Only's real estate is also worth more than the
$257 million reported on its books in its most recent quarterly
filing, a number that includes accumulated depreciation. "The
company, to date, has not pulled the levers to harvest this cash,
but the shareholders should be fairly compensated if the
opportunity is transferred to a new owner," the fund managers
wrote.
Following two price increases in recent years, including moving
to sell items in increments other than 99 cents and a 1% increase
to make prices 99.99 cents rather than just 99 cents, FBR said
there is room for further pricing power. The fund managers said
there is room even beyond two initiatives 99 Cents Only is
exploring, which includes selling certain staples like milk and
eggs for more than 99 cents and selling certain commodities like
rice and produce by weight rather than unit.
Lastly, FBR said there is room to add new stores in its existing
markets of California, Arizona, Nevada and Texas, plus the company
has "almost open-ended potential for geographic expansion beyond."
The managers argued 99 Cents Only is at a "growth inflection," with
store unit growth of 3% in fiscal 2011 and company guidance for 6%
expansion in fiscal 2012, which FBR said means there is an
opportunity for accelerating growth in future years. "The company
once sustained a high store growth rate and received a high
valuation multiple to match."
An FBR representative said the fund managers weren't promptly
available for an interview, and a 99 Cents Only spokeswoman didn't
return a phone call seeking comment.
The FBR Focus fund, which went from a passive investor to an
activist following the offer to buy the company, owns about 3.8
million 99 Cents Only shares that it bought for an average of
roughly $10.06 apiece. The fund is highly concentrated, with only
17 stocks as of the end of last year, and its 99 Cents Only stake
represented more than 7.8% of the $773.4 million portfolio,
according to fund tracker Morningstar. Its annualized return over
the past 10 years is nearly 15%, putting it in the top 1% of 399
mid-cap growth funds over the same time, Morningstar said, and
$10,000 placed in the fund a decade ago would be $39,631 today.
-By Maxwell Murphy, Dow Jones Newswires; 212-416-2171;
maxwell.murphy@dowjones.com
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