Sunday, March 18, 2007

Cherokee Inc.

Company Overview

CHEROKEE is an innovator in global consumer brand management and
pioneer of the “Retail Direct Licensing” concept:
• Markets, licenses and manages brands in multiple consumer product
• categories (i.e. apparel, home and entertainment)
• Unique business model with no inventory exposure or manufacturing risks
• Consistently profitable with increasing free cash flow and no debt
• Lean corporate structure –18 employees on $42+ million revenues (FY 2006)
• CHEROKEE owned Brands’ retail sales exceed $2.5 Billion
• CHEROKEE represented Brands’ retail sales exceed $1.5 Billion

Cherokee has an interesting and unique business model. The company, once a manufacturer of Cherokee brand apparel, has found a niche as a licensor of this brand and others to large retailers. No longer do they design, manufacture, market, and sell apparel, but instead they simply license an array of brands and let retailers and wholesalers do the leg work. This way, the retailers utilize their economies of scale
to produce the branded apparel cheaply, and CHKE enjoys high margins and eliminates inventory risk.

They license a portfolio of their brands to strong and growing retailers such as Target stores and TJX Companies in the U.S., Tesco and Carrefour in Europe, and Bolderway in China, who work in conjuction with the Cherokee group to develop merchandise for their stores. In addition to acquiring and licensing their brands they also assist other companies,wholesalers and retailers in identifying licensees or licensors for their brands or stores for which they charge a certain percentage of the net royalties generated by the brands.

Royalties paid under the licensing agreement are generally based on a percentage of the licensee’s net sales of licensed products. Cherokee and Sideout brand which are manufactured and sold by both domestic and international wholesailers and retail licenses are subject to extensive competition by numerous domestic and foreign companies. Such competitors with respect to the Cherokee brand include Levi Strauss & Co, The Gap, Old navy, Liz Claiborne and private labels such as Faded Glory, Arizona and Route 66 developed by retailers. Competitors with respect to Sideout Brand include QuickSilver, Mossimo, Nike and other active wear companies. Factors which shape the competitive environment include quality of garment construction and design, brand name,style and colour selection,price and manufacturer’s ability to respond quickly to the retailer.

In FY 1999 76% of royalty revenues of the Cherokee group was generated from a single source, Target stores, a division of Target Corp. but in FY 2006 57% of royalty revenues were from target stores. If Target Stores elects to terminate the agreement, effective after January 31, 2006 or at any other time, it would have a material adverse effect on the business, financial condition and results of operations. There can be no guarantee that they would be able to replace the Target Stores royalty payments from other sources. But I feel the chances of terminating the agreement is less because the sale of Cherokee brand accounts for 3% of total sales of Target Stores.

The success of the business is largely dependent on the continued services of Robert Margolis, the Chairman and Chief Executive Officer, who is the primary person responsible for conceiving and implementing the overall business and marketing strategy. Mr. Margolis is the beneficial owner of approximately 16.8% of outstanding common stock.


1. The Cherokee group has a low-cost infrastructure as it doesn’t manufacture the brand apparel.
2. Retailers leverage their economies of scale to source products and reduce picing by eliminating conventional wholesale margins.


Balance Sheet

all numbers in thousands
PERIOD ENDING 28-Jan-06 29-Jan-05 31-Jan-04

Current Assets
Cash And Cash Equivalents 11,896 10,960 8,477
Short Term Investments - - -
Net Receivables 10,558 8,571 13,946
Inventory - - -
Other Current Assets 1,445 1,081 747

Total Current Assets 23,899 20,612 23,170
Long Term Investments - - -
Property Plant and Equipment 305 149 108
Goodwill - - -
Intangible Assets 8,116 9,077 9,726
Accumulated Amortization - - -
Other Assets 15 35 34
Deferred Long Term Asset Charges 1,131 1,320 1,589

Total Assets 33,466 31,193 34,627

Current Liabilities
Accounts Payable 10,479 9,170 4,844
Short/Current Long Term Debt - - 2,625
Other Current Liabilities - - -

Total Current Liabilities 10,479 9,170 7,469
Long Term Debt - - -
Other Liabilities - - -
Deferred Long Term Liability Charges - - -
Minority Interest - - -
Negative Goodwill - - -

Total Liabilities 10,479 9,170 7,469

Stockholders' Equity
Misc Stocks Options Warrants - - -
Redeemable Preferred Stock - - -
Preferred Stock - - -
Common Stock 175 173 171
Retained Earnings 12,997 14,447 20,780
Treasury Stock - - -
Capital Surplus 9,815 7,403 6,207
Other Stockholder Equity - - -

Total Stockholder Equity 22,987 22,023 27,158

Net Tangible Assets $14,871 $12,946 $17,432


All numbers in thousands
PERIOD ENDING 28-Jan-06 29-Jan-05 31-Jan-04
Total Revenue 42,732 38,928 36,312
Cost of Revenue - - -

Gross Profit 42,732 38,928 36,312

Operating Expenses
Research Development - - -
Selling General and Administrative 11,709 10,735 11,118
Non Recurring - - -
Others 1,125 1,025 991

Total Operating Expenses - - -

Operating Income or Loss 29,898 27,168 24,203

Income from Continuing Operations
Total Other Income/Expenses Net 474 774 491
Earnings Before Interest And Taxes 30,372 27,942 24,694
Interest Expense 22 22 693
Income Before Tax 30,350 27,920 24,001
Income Tax Expense 12,073 10,754 9,840
Minority Interest - - -

Net Income From Continuing Ops 18,277 17,166 14,161

Non-recurring Events
Discontinued Operations - - -
Extraordinary Items - - -
Effect Of Accounting Changes - - -
Other Items - - -

Net Income 18,277 17,166 14,161
Preferred Stock And Other Adjustments - - -

Net Income Applicable To Common Shares $18,277 $17,166 $14,161

The business has a profit margin of about 41% and ROIC of about 83%. Now that’s a terrific performance.
The net asset value comes to around 24Million and the intrinsic value according to my valuation is 203Million which is much greater than the asset value which shows that business is able to utilize its assets to generate a high earnings power.
The Enterprise value is 362 million which is far much greater than the intrinsic value and doesn’t provide any margin of safety.
The asset required for entering this industry is very low and it supports the point that the business doesn’t have any barriers to entry.

No comments: