EUR 850.00 For Business Accounts Only

Morningstar | No-Moat Gildan Closes 2018 With Fair Quarter but Short-Term Outlook Soft; Shares Overvalued

Gildan closed 2018 with a quarter marked by solid sales but higher production costs. Adjusted EPS for the fourth quarter of $0.43 nearly matched our $0.44 forecast. Sales of innerwear and hosiery of $173.4 million exceeded our forecast of $140.6 million, but represented an 8% decline from 2017's fourth quarter. Gildan’s gross margin of 26.3% fell well short of our 28.5% expectation and was an 800-basis-point drop from the fourth quarter of 2017. Its gross margin in the fourth quarter of 2018 was affected by higher costs in transportation, labor, and fiber. Gildan expects these costs to remain high through at least the first half of 2019 and expects lower sales of imprintables and hosiery and underwear in 2019’s first quarter. Gildan-branded socks and underwear continue to suffer from inventory reductions and private-label substitution. While Gildan’s mass customer (believed to be wide-moat Walmart) private-label deal rolls out in mid-2019, we view the deal as evidence that Gildan lacks a strong brand or a moat. As Gildan’s 2019 adjusted EPS guidance range of $2.00-$2.10 is in line with our forecast of $2.07, we do not expect to change our fair value estimate of $23 (CAD $30.50) and view the shares as overvalued.

We do not believe Gildan’s investments in low-cost manufacturing allow for an economic moat. While its sales, general, and administrative expenses dropped to 12.7% in 2018 from 13.7% in 2017, its gross margin declined to 27.7% from 29.1% over the same period. Narrow-moat Hanesbrands, for comparison, reported gross margins of 39.3% and 39.0% in 2017 and 2018, respectively. We think the softness in Gildan’s gross margins suggests low pricing and limits on its ability to control costs. Notably, Gildan’s gross margins worsened in 2018 even as cotton (its primary raw material) prices declined from nearly $0.95 per pound in June 2018 to less than $0.75 per pound by December. We do not believe Gildan’s production provides a sustainable competitive advantage.