Unifi Shares Worth $38.72, Trading at a 39% Discount
We like to go into the fields before sunrise. Carry a little lantern and spade, poke around for green shoots while others are fast asleep…
One of our recent discoveries is Unifi, Inc. Founded in 1971 as a publicly-traded company (NYSE: UFI), it became the dominant synthetic yarn producer in the U.S. by the 1980s, forming the backbone of the now long-forgotten U.S. synthetic textiles industry. By 1992, the company was generating $1.3 billion in annual sales.
Everything looked pretty good. Consumer spending was on the rise. And synthetic goods were overtaking those made from natural fibers. Riding those secular tailwinds, Unifi continued to innovate and prosper. By 1997, revenues had surpassed $1.7 billion.
Then someone moved the company’s cheese. The devaluation of the Chinese Yuan in 1997 – followed by other Asian currencies – set off a series of devastating ripple effects on the U.S. textiles industry, making easy pickings for new low-cost Chinese (and other Asian) producers. Yarn production flew offshore almost overnight. By 2002, Unifi’s revenues had plunged below $1 billion. The pain persisted. In 2005, the World Trade Organization abolished global textile quotas, adding insult to injury. By 2007, revenues had fallen below the $700 million mark, a level not consistently seen since the 1980s. To make matters worse, Unifi’s gross margins had collapsed from the high teens into single digits. Yarn had become an Asian commodity.
Arguably it should have been “lights out” at Unifi. Not so fast. Unifi took a stand. The board (seasoned industry leaders and notable investor Ken Langone) recruited a new CEO, Bill Jasper in 2007. Under Bill’s leadership, the Unifi team was focused and persistent. First, they stabilized the company through rigorous cost control, process management and a focus on the growing Central American region. They then found ways to adapt and innovate. To plant seeds. To once again dream big dreams.
Drawing on decades of expertise, Unifi found opportunity through innovation – the creation of a new product line of clearly differentiated yarns. Those new products – known as PVA products (premium value added yarns) – improved the company’s cash flow and margins. PVA products are important to consumers because they can be utilized in unique ways to improve comfort, appearance, support, durability, sustainability, and more.
Unifi’s most important PVA product is the branded yarn Repreve, a polyester yarn produced from recycled plastic bottles and post-industrial plastic waste. Think pure sustainability. Repreve has been a significant contributor to PVA product growth over the last six years. It’s done so well that Unifi is banking on it vertically, spending $85 million to expand its Repreve manufacturing capabilities and backward integrate into recycling and used plastic bottle processing. Once complete, Unifi will have one of the most advanced recycling facilities in the world. This will create exciting supply chain efficiencies. Most importantly, it will strengthen Unifi’s competitive advantage.
As of the most recent quarter, PVA sales accounted for 33% of revenues, compared to only 16% back in 2009. And momentum is on their side, driven by increasing adoption by consumer powerhouses, including Ford, Nike, NorthFace, Patagonia and Target. Unifi’s PVAs have clearly “crossed the chasm” and are beginning to gain mass-market acceptance. Although the company does not break out PVA gross margins, we estimate they command 3-4x those of commodity yarns.
As a result, PVA sales are steadily driving increases in cash flow, which will only accelerate once Unifi completes its heightened fiscal (June 30 FYE) ’16 and ’17 capital expenditures. Based upon our projections, Unifi’s free cash flow should more than double to $2.60 per share in ‘17 and rise again by around 37% to $3.55 per share in ‘18. Green shoots rising. Table 1 below summarizes our view.
Note that our projections assume 10% EBITDA growth rates in fiscal ’17 and ’18, which we believe reflects a relatively low achievement bar once the Repreve expansion has been completed. Mid-to-high teen growth rates should be achievable as the demand for PVA products increases and Unifi gains more operating leverage through supply chain efficiencies.
As Table 2 below shows, a 10x multiple of ’16 projected EBITDA results in an enterprise value of $675 million and equity value of $555 million, or $29.78 per share. The current share price of $23.50 represents a 21% discount to value.
Arguably, it looks compelling, but in today’s volatile markets, you might think better buys could be found, until you realize you’ve missed something. That something has a name: Parkdale. Parkdale is the world’s leading (primarily cotton) yarn spinner. It’s privately owned, well capitalized (we assume zero net debt) and generates around $70 million of EBITDA on revenues of $850 million. Unifi just happens to own 34% of Parkdale.
As Table 3 below shows, we value Unifi’s interest at $8.94 per Unifi share, based on a 7x EBITDA multiple, after applying a 30% liquidity haircut, despite the fact that Parkdale is a larger company.
Table 4 on the following page displays the combined equity values of Unifi and its interest in Parkdale – $38.72 per share. By that measure, Unifi’s shares are currently trading at a 39% discount. Now that’s a bargain!
And who knows, Unifi might one day monetize their stake in Parkdale. Unifi’s ownership is carried on the books at around $110 million and, in our opinion, clearly is worth more than $150 million. If Unifi were to sell its stake, it could use the cash to do lots of things: pay down debt, accelerate strategic initiatives and so forth. That could be an interesting turn of events.
And there’s even more value to unpack north of $38.72 per share. Three identifiable catalysts (more green shoots) could significantly increase Unifi’s shareholder value above our estimate.
- The Grass. Years ago, Unifi bought a 60% stake in a company which has the licensing rights to a biomass plant, the Freedom Giant Miscanthus (let’s call it “Grass” just for kicks). As it turns out, the Grass has lots of uses such as poultry bedding, biopower, and perhaps even biofuels. Nowadays, they are selling all the Grass they can grow into the poultry industry. And they also have a contract to provide the feed to the University of Iowa’s biopower generation project. The licensing rights could be worth a fortune.
- Survival of the fittest, Brazilian style. Unifi is a major player in the Brazilian textile industry. Brazil has become an economic mess, which has amplified competitive pressures and forced many smaller textiles players out of business. Unifi, in contrast, has been able to use its market leadership position to strengthen its competitive position. The Brazilian economy will eventually reverse course. Once that begins to happen, Unifi will be standing tall, driving significant increases in revenues and profitability.
- Spinning yarn into brand demand. Today, Unifi is underfollowed and valued merely as a synthetic yarn producer. However, the Company is rapidly gaining brand awareness for sustainability and innovation, especially among millennials. As PVA products continue to gain popularity, Unifi’s growth and profitability should accelerate. As this unfolds, Unifi should attract broader equity coverage, rising demand from investors, and likely, a sustainably higher multiple.
With these catalysts in place, one could easily see Unifi’s share price accelerating beyond the $50 mark within the next few years.
The eastern skyline is beginning to warm with light as we make our way back in from the fields. We found lots of green shoots rising at Unifi. And we can’t wait for the masses to wake up and discover what we stumbled upon in the wee hours.