Superior Group: Where Value And Growth Meet At The Hip (NASDAQ:SGC)


Superior Group of Companies (SGC) is a micro-cap, overlooked stock that has caught our attention. The company has high insider ownership (35.6% as disclosed in its last annual report), is on a high growth trajectory, and already has the infrastructure in place to leverage business growth.

SGC operates under three main business segments: Uniforms and Related Products, Promotional Products, and Remote Staffing Solutions.

The company manufactures (via third parties and under its owned facilities) and sells uniforms, corporate identity apparel, and accessories to the medical, health, industrial, commercial, and retail sectors, through its Uniforms and Related Products segment. SGC began offering uniforms to the foodservice industry, retailers, and other service industries via the acquisition of HPI Direct in 2013. In 2018, SGC acquired CID Resources, a manufacturer of medical uniforms, lab coats, and layers, expanding its product portfolio in the healthcare market. Uniforms and related products accounted for approximately 63% of total sales in 2019.

The company started venturing into the promotional market via the acquisition of BAMKO. BAMKO is a full-service merchandise sourcing and promotional products company with sales offices in the U.S., Brazil, China, Hong Kong, and India. The decision to purchase BAMKO was to diversify revenue sources while creating cross-selling opportunities, allowing SGC to leverage BAMKO’s elite client base consisting of Fortune 500 and 1000 companies, many with uniform programs that HPI and CID can take advantage of. BAMKO also had and continues to have, deep sourcing capabilities which proved to be a competitive advantage during the height of the pandemic. Through BAMKO, the company has acquired other companies in the sector (Public Identity and Tangerine Promotions) to expand market share. It is important to note that there are approximately 22,000 promotional product companies in the U.S., ranging from mom-and-pop shops to large corporations. The market is highly fragmented.

SGC operates its Remote Staffing Solutions under the name The Office Gurus, or TOG, with offices in El Salvador, Belize, Jamaica, and the U.S. TOG is a multilingual telemarketing and business process outsourced solutions company. As a percent of sales, TOG accounted for 8% of total sales in 2019.

Management gave long-term guidance during its last conference call. The company sees revenues growing at a CAGR of 12.5% from 2021 to 2025. Operating margins are expected to be higher than 10% (compared to 5.2% at the end of 2019), as the business reaches scale.

If management reaches its targets, then we believe investors could expect an annual return of 24% during the next 4 years, give or take. We believe the company could achieve EPS of $2.40, assuming revenue growth targets are met, operating margin expansion is achieved, and the same capital structure is kept. The EPS number includes the expected increase in share count due to the recent equity raise. The market has valued SGC, on average, at approximately 20x earnings. Applying the same multiple to our expected EPS would give us a target of $48 per share.

Strong results

So far, the company has had strong 9-month results in its fiscal year and that momentum is expected to continue for the last quarter of the year. Consolidated sales for Q1 (Jan-March) were up 8.9%, Q2 sales were up 72% and recently reported Q3 sales were up 43%, compared to their prior-year periods.

While the company’s Promotional Products segment was affected due to the pandemic shutting down events and causing marketing budgets to decrease, the strength of BAMKO was highlighted in these times of crisis. The strong sourcing capabilities of BAMKO allowed the company to fulfill the demand for PPE orders, creating a new source of incremental revenues. That momentum continued throughout Q3, with BAMKO reporting sales of $44.2 million, up 67% from its prior-year period. PPE sales contributed $19.4 million to that third-quarter total. However, PPE sales for the segment declined sequentially compared to Q2, which saw PPE sales of $49.7 million.

The strength of BAMKO is in direct contrast to what the promotional industry saw, with management estimating a downturn greater than 35% so far this year. Recently acquired InnerWorkings (INWK), which is a direct competitor, saw sales decrease by 28% for its second quarter.

Sales for SGC’s Uniform and Related Products segment increased by 33.2% to $73 million during Q3, of which $14 million came from PPE sales, compared to just $800,000 in PPE sales in Q3 of last year.

Management guided for full-year sales of $500 million, with over $100 million of that being PPE sales. For fiscal 2021, the company expects sales of $450 million, as PPE demand starts to taper off across all divisions. While revenues are expected to decline, before the impact of COVID, management was expecting approximately $400 million in sales for the current fiscal year. With sales of $376 million in 2019, in a “normal” environment, that would have translated to a 6.2% annual CAGR.

The company has taken advantage of its strong operating year and cash flow generation to pay down debt. The acquisition of CID Resources added leverage to the balance sheet, ending 2018 with $112 million in long-term debt and a debt-to-EBITDA ratio of 4x. That said, at the end of Q3, the company reduced its debt-to-EBITDA ratio to a manageable 1.5x. Year-to-date, the company has repaid approximately $42.5 million of debt.

Another highlight from a capital allocation perspective was the decision to reinstate the quarterly dividend payment of $0.10 per share and the payment of a special dividend payment of $0.10, making shareholders whole for the 9-month period, after the temporary suspension of the dividend.

What’s next for SGC

We believe there is a big acquisition coming. The company raised equity with proceeds of approximately $120 million right after the Q3 earnings release. However, during the call, management gave various hints about going to the market looking for an acquisition:

We are seeing a robust market with acquisition opportunities surfacing or resurfacing, both on the uniform and promotional products side. We are actively exploring the landscape, looking for quality companies that fit our culture, our brand-building profile, are easy to integrate and would be accretive to our bottom line very quickly. – Q3 call

What we like from the above and below commentary is the fact that management wants an acquisition that is immediately accretive to its bottom line:

It’s got to be a business that we can integrate system-wise and people-wise and culture-wise, easily. If it’s one of those things that’s going to take us 2 or 3 years to get it done, we don’t want it.. It’s got to be quickly accretive. I don’t want to wait 2 or 3 years to see the bottom line of that business helping our own bottom line. I want to see it a lot faster. – Q3 call

The fact that the company went to the equity market to raise capital could signal a deal almost completed, or that’s what we believe. With a strong balance sheet, SGC has no trouble raising debt, but time might have played a role in choosing an equity raise over debt. Also, it is reasonable to assume, given the expected highly accretive nature of the acquisition management is looking for, that management expects a return on investment above its cost of equity. What gives us peace of mind about the equity raise, is the high “skin in the game” of management. Owners won’t dilute themselves in a value-destructive acquisition, or at least that’s our thinking.

The Bottom Line

So far, management has been a good allocator of capital. However, the biggest risk would be acquiring a business at the wrong multiple, especially since COVID can change an industry dynamic in an instant. The acquisition of InnerWorkings by HH Global Group in an all-cash transaction could indicate industry consolidation, which could make the market hot for acquisition targets, thus pushing multiples higher.

That said, we believe SGC is in the early innings of its growth story. The high stock ownership of management and its confidence to provide long-term targets make this a compelling opportunity. That said, there have been many cases of “over-promising and under-delivering.” However, at just 16x forward earnings, we are not paying excessive multiples for SGC, tilting the risk/reward balance in our favor. If management does achieve their targets, then we could be looking at $2.40 per share in the next 4 years, give or take. At 20x earnings, we are looking at a value per share of $48 for SGC.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in SGC over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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