American Apparel Update

• Posted by Michael Bigger
• on July 7th, 2011

We are analyzing a special situation with American Apparel ($APP).  As background, $APP secured rescue capital from Michael Serruya and Delavaco Capital on April 26 to help $APP avoid filing for bankruptcy.  The company was able to re-negotiate the terms of their debt to avoid default provisions triggered when 2010 financial statements contained a “going concern” clause.  At that time we initiated a small long position in the stock, and we have been monitoring the situation ever since.  On July 1 APP announced plans to replace 2 of their directors.  At that time we added to our position.

Today $APP announced sales numbers for the quarter ended June.  Sales were flat relative to last year’s June quarter, $132mm, despite a decrease in the number of stores.  We think this is very positive for the company.  Wholesale sales were down 4%, with the implication that retail / online sales made up the deficit.  We think this is a positive for operating margins.  We think of this company as a potential turnaround story, and today’s news represents confirmation that numbers are starting to turn around.  The earnings report is scheduled for August 1.

We think $APP offers a good risk/reward profile, with high risk but higher reward potential.  Here are the main points:

• Serruya and Delavaco Capital bought 15.8mm shares at $0.90 per share.  They have the option to buy another 27.4mm shares at $0.90 within 6 months of the initial investment [October 26]
• As part of the terms of the investment, the CEO of the company has an anti-dilution provision.  If APP reaches stock price performance goals of $3.25 by 2013, $4.25 by 2014, and $5.25 by 2015, the CEO receives a total of 39.7mm additional shares.
• The company’s 2010 sales were $533mm.  Costs are high in both Cost of Goods and Selling / General & Administrative costs, but with some cost-cutting measures the company may be able to return to profitability.
• Total debt is well-collateralized:
• Long-Term Debt as of Year End 2010: Total $139mm
• Revolving Credit Facility at Bank of America, $75mm, $53.4mm is drawn, due July 2012
• Term Loan at Lion, $81.2mm matures Dec 31, 2013
• Assets as Collateral for Debt (as of Year End 2010): Total $287.3mm
• Cash $7.6mm
• Accounts Receivable $16.7mm
• Inventory $178mm
• Property and Equipment $85mm
• The company may now have enough time to return to profitability before cash runs out.  The current rescue investment is for $15mm immediately plus an additional $25mm over the next 6 months at the discretion of the investor, for a total potential cash infusion of $40mm this year.  Total cash usage for operating activities was $32mm in 2010, although it should be noted that in 2010 the company reduced inventory by $37mm (20%).

• The company is scheduled to announce earnings on August 1.

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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