It wasn’t the good news I was hoping for (a takeout), but it was good enough. This morning, B. Riley announced it was taking a 29.4% financial stake in bebe stores. This announcement is good for two reasons. First, B. Riley is converting its bridge loan into equity, which takes away any risk of bankruptcy. Second, all transactions were done above the last closing price of $4.44, confirming my view that bebe stores is significantly undervalued.
B Riley Becomes a Large Holder
Today, B. Riley announced that it was cancelling its $16.9mn bridge loan in exchange for 2.8mn shares, or a conversion price of $6.00/share. Along with transaction, B. Riley purchased 250k shares from the company for $6/share, and another 250k shares from founder Manny Mashousf, again for $6/share. As a result of all the transactions, B. Riley now has a 29.4% ownership in the company.
In conjunction with the change in ownership, the Board has adopted a tax plan to preserve the value of the tax assets.
What Impact Does This Have on bebe Stores?
Previously, bebe stores had around 8.2mn shares outstanding. In today’s transaction, it will issue 2.8mn shares to cover the bridge loan. It’ll also issue another 250k shares in a direct sale to B. Riley. This means total outstanding shares will increase to 11.3mn.
bebe Adjusted Sharecount
|Shares Sold to B. Riley||0.25mn|
As of the most recent 10-Q filing, bebe stores had $30.9mn in assets and $39.2mn in liabilities. The bridge loan was on the books for $15.6mn, which now goes to $0. So total liabilities have decreased to $23.6mn. Assets increase by $1.5mn to $32.4mn from the sale of the 250k shares.
|Original Total Liabilities||$39.2mn|
|Less: Bridge Loan||-$15.6mn|
|Adj. Total Liabilities||$23.6mn|
However, bebe stores’ headquarters is listed at $8.6mn on the balance sheet, which is well below market value. Currently, the building is being offered for $30mn. For the sake of conservatism, let’s assume bebe stores nets $25mn in cash once the building is sold (NOLs limit tax impact). That means the carrying value of the HQ is $16.4mn too low. Adjusting for the market value of the HQ, total assets should actually be worth $48.8mn.
|Less: Book Value of HQ||-$8.6mn|
|Add: Market Value of HQ||$25.0mn|
|Add: Cash from Share Sale||$1.5mn|
|Adj. Total Assets||$48.8mn|
Total assets, which will be primarily cash, less total liabilities, means net book value increases to $25.2mn, or $2.20/share.
Tax Preservation Plan
Because of the transaction, there’s the risk bebe stores will lose the value of its NOLs through a change of control. As a result, the Board has implemented a tax preservation plan, where it makes it very dilutive for anybody that currently has a 5% ownership stake in the company to increase their ownership by 50% without board approval.
Note that this tax preservation plan doesn’t preclude the eventual sale of the company, although any sale would require board approval.
Leveraging the Value of NOLs
In the B. Riley press release, it noted $340mn in NOLs. Assuming $25mn gets used from the sale of the headquarters, that means $315mn will remain post the sale.
In the same press release, B. Riley discussed opportunities to monetize the NOLs, primarily through investments in businesses that generate cash flow or dividends.
“This investment reflects the core strategy of B. Riley Principal Investments which is to invest in companies or corporate assets that present attractive cash flows to generate dividends for shareholders. By leveraging bebe’s net operating losses and new tax laws for cash and dividend investments, our focus is to produce attractive investment yields for bebe and B. Riley shareholders.”
Previously, I didn’t assign any value to the NOLs because it was difficult to determine how it would be monetized. However, this statement makes it clear that they’re going leverage this asset. With $315mn in NOLs and a corporate tax rate of 21%, the NOLs are worth $66mn. Since the timing for the realization of NOLs is uncertain, let’s cut this value in half, to $33mn.
Adjusted Fair Value
In my adjusted valuation, I estimate $25mn in cash and NOLs worth $33mn. I still believe $9-11mn in equity income from the JV is achievable. Using a conservative multiple of 10x for the JV, that implies a total adjusted fair value of $158mn, or $14/share.
At today’s closing price of $6.10, the current market cap is only $68mn, slightly above the value of the cash and NOLs alone. So even if you don’t think the JV is as valuable as I do, you’re basically getting a free option on that business.
Disclosure: I own BEBE stock. The opinions expressed are my own. Investing is risky, especially stocks with less than $100mn market cap. Please do your own research before making your own investments!