There was a definite slowdown in temp staffing during the second half of 2015 and the beginning of 2016. The slowdown was mainly in the energy and industrial sectors. The staffing business is cyclical, and would be hit hard in a recession so this is a clearly defined risk. Since I believe the economy is not headed in to a recession and the NFP numbers will remain strong, I expect staffing to firm up. Robert Half (RHI) stock price currently has a $44 handle, and it has fully priced in the staffing slowdown. I believe this level is still pricing in a decent probability of a recession, and is certainly not priced for a pickup in the staffing business. If the job market remains firm and staffing improves, Robert Half stock could recover to $50 - $60 range over the next 6-12 months.
Robert Half's financial performance has been above its industry average. Robert Half is currently growing and expected to continue to grow revenue at a rate of 7% which is the lower end of its 5-year revenue growth range of 7-15%. Over the past 5 years, Robert Half grew revenue at a 9.9% CAGR while the professional services industry grew revenue at a 9.1% CAGR. Over the past 5 years, Robert Half grew eps at a 43.6% CAGR while the professional services industry grew eps at a 17.4% CAGR.
Robert Half (RHI) is trading at a discount to fair value. At a trailing PE of 15.8x and a forward PE of 14.3x, Robert Half is trading at a discount to the S&P 500 which has a trailing and forward pe of 19.6x and 16.7x. Robert Half's average trailing PE over the past 5 year is 24.9x. The professional services industry is trading at 29.9x pe, right on top of it's 5 year average of 29.3. The industrials sector is trading at a forward pe of 16.3x with a 15-year average of 17.0x.
Although there has been a slowdown in temp staffing, the overall labor market strong which is a good environment for the staffing business. Employers put a higher premium on recruiting services in a tight labor market and this improves margins of the staffing business. The slowdown in the staffing business has not worked its way into the NFP numbers yet. Temp staffing employment, shown in the graph below, is viewed as a leading indicator of overall employment. The recent weakness in temp staffing could mean some weakness in NFP reports to come, and Robert Half's stock has priced in this weakness. If NFP stays firm or improves, then Robert Half has a lot of headroom to rally.
Protiviti is Robert Half's consulting business which competes with the big four accounting firms. Protiviti is growing faster than the staffing business with better margins. Protiviti is performing exceptionally well with strong revenue growth of 15.4% in 4Q and margin expansion. Protiviti growth has been driven by internal auditing and compliance. Protiviti operating margins are in the mid-teens. This is higher than Robert Half overall, which had an operating margin of 11.4% in 2015. Protiviti accounted for 14.9% of revenue in 4Q. The faster growing Protiviti segment is increasing as a percentage of revenue and is expanding operating margins. Protiviti also diversifies the main staffing business.
If Robert Half pe multiple were to expand to the same pe multiple as the industrial sector average, then the pe would increase from 14.3x to 16.3x. Robert Half forward eps is 2.91, so 2 turns would increase the stock price by 5.82., or 13.2%. If all goes well, I could see Robert Half above $50 in short order and approaching $60 in the next 6-12 months.
Sketchers (SKX) is cheap at 7.6x EBITDA, 14.4x earnings, and 14.8x free cash flow. These multiples look even cheaper when compared to Sketchers healthy long-term growth of greater than 15%. This valuation and growth potential justify a higher valuation, and I currently advocate an outright long position in Sketchers. The international growth story remains intact with additional growth potential in apparel.
Sketchers reported a strong 4Q with comp store sales up 9.1%, and guided comps up mid-to-high single digits in 2016. Sketchers also guided their store count to be up by 330 to 340 stores in 2016, approximately a 25% increase. Sketchers has a net cash position with no financial leverage. Sketchers entirely funds their growth with cash flow generated from operations.
Sketchers looks even more attractive when compared to other apparel stocks which either trade at much higher valuations or have much lower growth potential. If you don't want to be long Sketchers outright, then consider selling Under Armour (UA) against it.
Under Armour's valuation is stretched by any measure. Under Armour is trading at 30.0x EBITDA and 65.0x earnings with no free cash flow. Under Armour guided 2016 revenue to $5.0 billion and operating earnings to $503 million. Under Armour's enterprise value is $18.7 billion. Sketchers enterprise value is $3.9 billion, 2016 revenue is expected to be $3.6 billion, and operating earnings of $430 million. A portion of the difference in valuation is appropriate given the higher growth rate of Under Armour. Let's call Under Armour's long term growth rate 20% while Sketchers is 15%. Under Armour has taken on some debt, and currently sports a net debt-to-EBITDA ratio of 1.1. Under Armour stated on their latest conference call that they plan to further financially lever to fund growth.
There's more to the bear case at Underarmor than just the valuation. First of all, Under Armour generates zero free cash flow. Capex at 8-10% of revenue is approximately equal to operating cash flow. In addition, SG&A is expected to delever in 2016, and gross margin is expected to be down 150 bps in 1Q, but flat for the year.
Under Armour is investing heavily in technology, which is not generating an attractive return as measured by their subpar 10.1% ROIC. Under Armour just launched Gemini 2 RE, its first "smart shoe", which records your runs to MapMyRun app and UA Record. The Gemini 2 RE is basically a shoe with a footpod inside. The stand alone functionality of the Gemini 2 RE is not the same as a wrist-worn fitness tracker or a smart phone, so it's not a replacement for either. Since the shoe wears out before the footpod, you are throwing away a perfectly good footpod when you replace your shoes. My guess is the "smart shoe" is not going to take off.
Under Armour contracted IBM's Watson to gather insights into personal health and fitness from UA Record. If Under Armour needs Watson to make sense of its customer data, then they are making health and fitness much more complicated than it should be. How is Under Armor planning to monetize Watson's insights? This is not fleshed out at all. Its just a free service. This all appears to be a waste of shareholder value. Under Armour has also contracted SAP to combine the UA Record data with their transactional information to "guide their business". It sounds like Under Armour is drinking the consultants' koolaid. Is a record of workouts and meals going to guide your apparel business? This is consultant mumbo-jumbo. Under Armour's goal is now to become the "best in class real-time digital enterprise". This a quite a transformation from making tee shirts. The most ridiculous thing about this story is the shareholders are buying it. As long as Under Armour keeps posting 25% revenue growth, shareholders will let them waste money on these fruitless projects.
Let's compare these businesses head-to-head:
In summary, I like Sketchers because it has an attractive valuation and growth and is a well run business. Sketchers is not chasing a pie in the sky dream to become a "digit enterprise". Sketchers is working to stay ahead of the trends in the shoe business not the trends in Silicon Valley. I am not a fan of Under Armour because I believe management is destroying shareholder value by investing in these tech initiatives, and I think this will ultimately hurt its share price. I don't advocate shorting stocks purely on valuation. Given the fundamental flaws in Under Armour's business strategy, its low ROIC, and its stretched valuation, I rate the stock a sell.
Michael Grove, CFA