Hi Chaz, that's a good question. In essence, depreciation is a non-cash charge and an accounting expense that is incurred to 'space out' a large capital expenditure (e.g. purchasing a new manufacturing plant) over time. It wouldn't be fair to incur the entire expense in one year as the new plant is also putting out more products. The practice also produces tax benefits. Actual capital expenditure reflects the 'true' investment in the growth (new additions) and maintenance of that equipment - returning capital equipment at the end of the year to the state it was in at the beginning. The divergence between the two should not be as extreme as it is in Reitmans' case, and it is for this reason that free cash flow (which adds back depreciation and detracts only true capex) exceeds net income (which detracts only depreciation), and is more representative of actual earnings. You could always use EBIT of course, if that's your style. Hope that makes sense?
Ahh ok, just had a peek at the 2021 financials - majority of the D&A (c. $45m) is from ROU assets. Any capex on those will be accounted for in the value of the lease; affecting net debt
In my experience, not often I find that there's that much variance (10x!) between depreciation & capex - depr. usually being a decent proxy for capex, except instances such as all the assets are near end of life, or inflatory periods, etc
Johan, thanks for the write up. I was recently put on to the opportunity and overall, there’s no doubt that the stock is trading at very distressed valuations on a relative basis. I thought about Chaz’s point of under spending during this pandemic period. That was certaintly true in 2020 but it does not appear to me that they’ve held back on cap-ex throughout 2021, showing signs of a more normalized environment. Retailers can be a pain to hold given the risks inherent to their business model, the greatest of which is prob fashion risk, but I can’t see how the stock does not re-rate once the memory associated to their bankruptcy fizzles out of investor’s mind as operations normalize. Like to mentioned, hopefully this entire bankruptcy journey ignited a more disciplined culture around operating costs. I’ll be watching this one very closely + following mgmt communications.
Why logical to value using FCF, if they are massively underspending on CapEx?
EBIT a better metric?
Hi Chaz, that's a good question. In essence, depreciation is a non-cash charge and an accounting expense that is incurred to 'space out' a large capital expenditure (e.g. purchasing a new manufacturing plant) over time. It wouldn't be fair to incur the entire expense in one year as the new plant is also putting out more products. The practice also produces tax benefits. Actual capital expenditure reflects the 'true' investment in the growth (new additions) and maintenance of that equipment - returning capital equipment at the end of the year to the state it was in at the beginning. The divergence between the two should not be as extreme as it is in Reitmans' case, and it is for this reason that free cash flow (which adds back depreciation and detracts only true capex) exceeds net income (which detracts only depreciation), and is more representative of actual earnings. You could always use EBIT of course, if that's your style. Hope that makes sense?
Yeah thanks, got that. My concern is that if they're underspending on CapEx it's just pushing the cost burden to future years.
To be fair, haven't looked at the financials. Will be curious what their CapEx spend as a % of stores/revenue/gross sq. ft. is compared to comps.
Well, I wouldn’t say that they are ‘underspending’ on capex… the depreciation charges are just much greater. Could you explain your reasoning to me?
Also, yes that would definitely be valuable information. If you beat me to figuring that out do let me know!
Ahh ok, just had a peek at the 2021 financials - majority of the D&A (c. $45m) is from ROU assets. Any capex on those will be accounted for in the value of the lease; affecting net debt
In my experience, not often I find that there's that much variance (10x!) between depreciation & capex - depr. usually being a decent proxy for capex, except instances such as all the assets are near end of life, or inflatory periods, etc
Don't know if that makes sense
That does clear things up a little, thanks. I'm going to dig into the specifics!
Johan, thanks for the write up. I was recently put on to the opportunity and overall, there’s no doubt that the stock is trading at very distressed valuations on a relative basis. I thought about Chaz’s point of under spending during this pandemic period. That was certaintly true in 2020 but it does not appear to me that they’ve held back on cap-ex throughout 2021, showing signs of a more normalized environment. Retailers can be a pain to hold given the risks inherent to their business model, the greatest of which is prob fashion risk, but I can’t see how the stock does not re-rate once the memory associated to their bankruptcy fizzles out of investor’s mind as operations normalize. Like to mentioned, hopefully this entire bankruptcy journey ignited a more disciplined culture around operating costs. I’ll be watching this one very closely + following mgmt communications.