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Thursday, January 13, 2011

PS: Parlux Fragrances (PARL) Moves Higher as Perfumania (PERF) Credit Overhang Eliminated; Still Offered at Discount

As a brief follow-up to our Tuesday post, What's Moving Parlux Fragrances (PARL) and Market Leader (LEDR) Higher?, we wanted to point out one more important reason behind Parlux's recent upward move that we didn't see until Wednesday (our excuse: busy week, including some travel).

In addition to more details last week around the imminent launch of Rihanna's new perfume -- please see prior post or Rihanna to Launch Her First Fragrance, Reb’l Fleur (People StyleWatch), very favorable news was released Monday evening by Perfumania (PERF):
First, although same store sales for the month of December were down 7% Y/Y, Perfumania is surviving and -- this is the big news -- was able to secure a new credit facility:
  • Perfumania Holdings, Inc. announced today that the Company has entered into a new $225 million senior secured revolving credit facility with a syndicate of banks for whom Wells Fargo Bank, National Association acts as Administrative Agent, Collateral Agent and Swing Line Lender. The initial proceeds of the new facility were used to refinance the Company's existing senior credit facility, which was due to expire in August 2011. The new facility will be used for working capital and other general corporate purposes. It has a four year term, does not require amortization of principal and may be paid before maturity in whole or in part at the Company's option without penalty or premium. Bank of America, N.A. serves as Syndication Agent; Regions Bank and RBS Business Capital, a division of RBS Asset Finance, Inc., a subsidiary of RBS Citizens, NA, serve as Co-Documentation Agents; and Wells Fargo Capital Finance, LLC and Merrill Lynch, Pierce, Fenner & Smith Incorporated serve as Joint Lead Arrangers and Joint Bookrunners.
  • Michael W. Katz, President and Chief Executive Officer, said, "the Senior Credit Facility will provide Perfumania with improved financial terms and greater flexibility. Most of the financial institutions in our bank group have been supporting us for many years, and we are very pleased to retain the continuity. We look forward to working with Wells Fargo and the entire bank group."
Why do we care? Perfumania is a significant customer of, and related party to, Parlux. We don't have time to share all details, but plenty of information can be found in Parlux's SEC filings. We will relay this from the latest Annual Report Form 10-K:
  • In the United States, we have our own fragrance sales and marketing staff, and utilize independent commissioned sales representatives for sales to domestic U.S. military bases and mail order distribution. We sell directly to retailers, primarily national and regional department stores, whom we believe will maintain the image of our products as prestige fragrances. Our products are sold in over 2,500 retail outlets in the United States.
  • Additionally, we sell a number of our products to Perfumania, Inc. (“Perfumania”), which is a specialty retailer of fragrances with approximately 370 retail outlets principally located in manufacturers’ outlet malls and regional malls in the U.S. and in Puerto Rico, and to Quality King Distributors, Inc. (“Quality King”). Perfumania is a wholly-owned subsidiary of Perfumania Holdings, Inc.
  • The majority shareholders of Perfumania Holdings, Inc. are also the owners of Quality King, a privately-held, wholesale distributor of pharmaceuticals and beauty care products. Perfumania is one of our Company’s largest customers, and transactions with Perfumania are closely monitored by management. Any unusual trends or issues with Perfumania are brought to the attention of our Company’s Audit Committee and Board of Directors. During fiscal year 2007, Perfumania Holdings, Inc.’s majority shareholders acquired an approximate 12.2% ownership interest in our Company at that time (10.1% at March 31, 2010), and accordingly, transactions with Perfumania and Quality King are included as related party sales in the accompanying Consolidated Statements of Operations.
  • Perfumania offers us the opportunity to sell our products in approximately 370 retail outlets and our terms with Perfumania take into consideration the relationship existing between the companies for almost 20 years. Pricing and terms with Perfumania reflect (a) the volume of Perfumania’s purchases, (b) a policy of no returns from Perfumania, (c) minimal spending for advertising and promotion, (d) exposure of our products provided in Perfumania’s store windows, and (e) minimal distribution costs to fulfill Perfumania orders shipped directly to their distribution center. During the three years ended March 31, 2010, our sales to Perfumania accounted for more than 10% of our sales. Our sales to Perfumania were as follows (click to enlarge):
  • While our invoice terms to Perfumania are stated as net ninety (90) days, for over fifteen years, management has granted longer payment terms taking into consideration the factors discussed above. We evaluate the credit risk involved, which is determined based on Perfumania’s reported results and comparable store sales performance. Management monitors the account activity to ensure compliance with their limits.
  • Net trade accounts receivable owed by Perfumania to us amounted to $10.5 million and $12.4 million at March 31, 2010, and 2009, respectively. Between April 1, 2010, and June 25, 2010, we received $6.7 million from Perfumania in payment of its outstanding balance. Trade accounts receivable from Perfumania are non-interest bearing, and are paid in accordance with the terms established by management. See “Liquidity and Capital Resources” for further discussion of this receivable.
  • We continue to evaluate our credit risk and assess the collectability of the Perfumania receivables. Perfumania’s reported financial information, as well as our payment history with Perfumania, indicates that, historically, their first quarter ending approximately April 30, is Perfumania’s most difficult operating quarter as is the case with most U.S. based retailers. We have, in the past, received significant payments from Perfumania during the last three months of the calendar year, and have no reason to believe that this will not continue. Based on our evaluation, no allowances have been recorded as of March 31, 2010, and 2009. We will continue to evaluate Perfumania’s financial condition on an ongoing basis and consider the possible alternatives and effects, if any, on our business.
SO, we do care about the performance and viability of Perfumania for the sake of Parlux. Some investors have avoided Parlux entirely and correctly highlighted risk to the company because of Perfumania's weak liquidity profile (debt burdens coupled with tough operating environment and already thin margins) and Parlux's customer concentration (Paris Hilton products represented 42% of fiscal 2010 sales). Indeed, these are risk factors that must be considered. However, per our initial Parlux post, celebrity brands such as Paris Hilton proved strikingly resilient over the last several years (through the downturn).

While Perfumania's new four-year credit facility doesn't change the company's operating fundamentals, it does mitigate concerns around liquidity. HENCE -- as the Market conveyed on Tuesday by moving Parlux 5% higher on above average trading volume -- we can happily report that the Perfumania credit overhang is now eliminated.

As shareholders, we are pleased to see renewed Market interest in the stock and stand by our original view for Parlux Fragrances:
  • [Rather than a broken, potentially bankrupt business], recent results and cash generation tell a different story, which implies that shares should trade at or above net tangible book value of just under $5.00 per share. Moreover, we can envision at least another $1-2 dollars of upside beyond the $5 for Parlux's going-concern value (celebrity relationships, licenses, etc.). Finally, if management executes and delivers margin expansion toward the company's former 10% target operating margin, we could see a fair value range meaningfully higher than current levels. But, this would be gravy. For now, we're focused on $5 as a starting point. This simply makes common stock sense.
Happy investing,

Jeffrey Walkenhorst

Disclosure: long PARL, LEDR.

© 2011 Jeffrey Walkenhorst
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  1. Jeff,

    Have you looked at JMBA lately? Right up your alley. Turn around story with free cash flow.



  2. Hello Jim,

    Funny you should mention JMBA - I've been following the stock ever since the company started trading several years back - wow, actually since 2006 now that I look at the chart. Time flies. Tough sledding since then and, actually, the free cash flow hasn't really been flowing to this point for a variety of reasons. YET, it just might if the franchising and licensing model works as mgmt expects and operating margins move to the high teens. I've been meaning to give another look, but have not had time.

    Do you have expectations for near- and medium-term free cash generation under the new business model? Fair value estimates?

    Any idea why Director Andrew Heyer (or his firm) unloaded his entire stake?

    Thanks and my best,


  3. Jeff,

    I just started researching the story after they put the most recent release out about SSS. Wall Street has them doing about $20 mill in EBITDA this year which it seems to be conservative based on what I have read. I think it assumes very little traction on the licensing front. 15x multiple on that EBITDA number gets you about a $3.55 TP. Nice return from this price.

    On Heyer I have no idea who he is and why he is selling. I am not sure he has even sold everything yet. I don't trust Yahoo finance when it comes to this kind of data.

    I like that the CEO has been there for a few years now and it usually takes 2-3 years to get some momentum behind a new CEO's plan. The last press release is showing me we may be ready to start showing margin expansion which as you know well, leads to better earnings.



  4. James,

    Thanks for the color... EBITDA is OKAY, but operating income and free cash flow are my preferred metrics. I need to give a closer look and, in particular, understand the licensing story.



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