TLDR at bottom
I decided to try a back testing experiment where I would look at current and recent operations of a company ($GIL: Gildan) and come up with my own five year estimates for growth taking into account quantitative and qualitative factors. The process was to look at old financials and come up with my judgement. I have never analyzed $GIL before and I knew nothing about their financial state past or present. I read their annual reports in order from oldest to newest in order to maintain an unbiased opinion.
I know that some of you will point out that I could have just said that I did this in order to make me look smart by having accurate growth estimates. I assure you that the point of this post is to highlight the discrepancies between predictions and reality, and hopefully add something to your investing toolbox for you to think about.
Ten years ago analysis:
(2011) The balance sheet has a good structure. Current assets along can cover all liabilities quite easily. Debts are not a problem. There has been recent sales and earnings with good profit margins hovering around 10%. Operating cash flow is generating consistent cash flow. Net cash flow was negative attributable to a large business acquisition so this year net cash flow was negative but on average could be expected to reach 100M annually.
Acquisitions:
- The business they acquired was a sock supplier for 350M at a net asset premium of 137M.
- They also spent 15M on 12M assets on a vertically integrated T-Shirt manufacturing facility in Bangladesh.
Inventories are mostly finished goods (About 80% are finished goods) with the remainder being materials, spare parts, and partially finished goods. Manufacturing equipment is about half of PPE and increased by 100M in the last year. Goodwill increased by roughly the value excess of assets in the acquisitions. They have an 800M RLOC with 209M drawn @ 2.3%.
Based on their past income statement data, I would not say it is unreasonable to expect 100M in revenue growth per year over the next five years. They have increased sales by 300M per year, but to stay conservative I will use the figure of 100M YoY or about 5%. Earnings and OCF will follow this trend. The balance sheet will stay strong, hopefully with the same structure of assets as we see now. Depending on their appetite, debt may increase if they keep up with large acquisitions.
What actually happened:
2016:
-Current assets went up about 500M, or about 60%. Overall assets increased by 1B
- Liabilities doubled, Retained earnings increased by about 50%
- Sales increased by about 1.3B, or 250M per year. Overall increase of about 12% yearly
- Earnings increased by about 4% yearly. OCF increased by about 50%, or 8% YoY.
Their financial health got stronger overall. Sales and OCF did much better than expected, and earnings slightly underperformed. The operating environments during this period were quite good. The world economy was experiencing growth after the financial meltdown in 2008 that was above average.
Five years ago analysis:
(2016) The balance sheet has good structure. Current assets are almost double liabilities. Most current assets are inventory. Assuming that of these only finished products will be converted into cash and receivables nets 640M, which still covers all liabilities. The company is on track to have almost no need for debt. Sales are large compared to the balance sheet, and profit margins are and have been above 10%. OCF is good, but ideally this number would be about 20% larger to cover current asset requirements with a larger debt coverage margin of safety.
They recently acquired a shirt manufacturer for 112M with 14M goodwill. They also paid 102M for the assets + 26M goodwill in a lingerie company, the first acquisition of this sort.
It would be reasonable to say that revenue can grow by about 250M per year or about 8% YoY. This is about half of the growth seen in the recent two years, so it is considered a conservative estimate. Net income will likely trail this trend by 20-30% earnings growth has been slightly slower than revenue growth. Earnings growth can be estimated to be 4-5% YoY, and OCF could follow this closely. If they manage money right, total liabilities could shrink to ⅓ of total assets in the coming years, although debt may rise as a number if they continue their current acquisition habits.
What actually happened:
2021:
- Sales are at 2B, about a 35% decrease from 2016
- Net income is -220M
- Operating cash flow have decreased by 40%
- All three of my predicted growth rates were useless. Revenue from 2019 year end was also much lower than the growth rates would have dictated.
- Instead of selling more shears, they issued one billion in debt payable over the next six years with an average interest rate of 2.8%
It is clear that in periods of stable growth, it is much easier to be optimistic. Who would have been able to predict the pandemic? Certainly not me. But that is not an excuse for being wrong. This was a very interesting activity for me to do, and hopefully this can serve as a reminder that predictions and reality can very possibly have zero correlation. The low growth in 2019 was not related to the pandemic, further proving that predictions - your own or from others or even professionals - have the possibility of being dangerously wrong.
TLDR:I tried to look at really old financials and predict what would happen in the companies near future. It worked well from 2011-2016, but completely failed between 2016-2021.
Submitted July 10, 2021 at 11:47PM by valuescott https://ift.tt/2VjUE95
