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Hibbett Sports, Inc. (HIBB) August 27, 2017

Price: $12.00 Warning Signs Abound but Current

Tangible Book Value per Share: $15.68
Margin of Safety: 23% Valuation Offers Attractive Margin of
Industry: Specialty Stores
Safety
Najim Mostamand, CFA Overview
949-244-5394
Sporting goods retailer Hibbett Sports (NASDAQ: HIBB) has endured a
namostamand@aol.com
thrashing this year, with the stock down nearly 70% year-to-date. Despite
the companys efforts to continue competing in an increasingly challenging
Stock Data retail environment, curtail declining margins, and overcome inventory
52-Week Range $9.40-$45.85 management issues, very little has been put forth to stop the bleeding. Not
Avg. Daily Volume 854,257 even the launch of its much-anticipated e-commerce store in late Julyafter
Market Cap (M) $249.2
three years of developmentcould ease investor pessimism. Yet, despite
Enterprise Value (M) $197.0
the numerous warning signs that exist, the company has an excellent track
Shares Outstanding (M) 20.8
Float (M) 19.1 record of growing tangible book value and has been actively buying back its
Cash Per Share $2.54 shares. Most importantly, the stock is currently trading at nearly a 25%
Short Int. (M) | % of S/O 3.4 | 16.6% discount to tangible book value, offering a compelling margin of safety for
Tang. BV Per Share $15.68 those patient and brave enough to endure the turmoil.
Insider Ownership <1.0%
Institutional Ownership 113.9%
FY End Jan/Feb
Key Points
Source: S&P Capital IQ Despite facing significant industry headwinds, continued margin
deterioration, and a host of other issues that have inhibited its growth
potential (which will be touched upon later), the company still has a few
Company Summary
things going right for it, including:
Hibbett Sports (NASDAQ: HIBB) operates
sporting goods stores in small- and mid-sized Solid Track Record of Tangible Book Value Growth: Since the
markets, primarily in the South, Southwest, Mid- current CEO took the helm in March 2010, Hibbett has grown
Atlantic, and Midwest. Its merchandise consists tangible book value per share by a CAGR of 14.1%. Compare this to
primarily of apparel, footwear, and athletic the stock price which has only grown 6.4% on an annualized basis
equipment. The company also sells merchandise during this period, and one can see that Hibbett is undervalued.
directly to educational institutions and youth
associations. Increasing Buyback Activity: Over the past few years, the company
has bought back a significant amount of shares. Managements
comments from the most recent earnings call suggest that Hibbett
will more aggressively repurchase its shares in light of the
diminished growth outlook, which should serve as a nice catalyst to
the stock in the near-term.

Sufficient Margin of Safety: Above all, the company is trading at a

meaningful discount to tangible book value. This should offer
reasonable downside protection for even the most cautious
investor, as the market corrects its valuation of the company.

Please see page 9 for relevant disclosures

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Company Summary
Hibbett Sports, Inc. (NASDAQ: HIBB) is a Birmingham, Alabama-based sporting goods retailer founded in
1945 that specializes in apparel, footwear, and equipment. Initially a marine and small aircraft business,
the company started targeting school athletic programs in North Alabama in the 1950s. Having grown the
latter to a profitable business, the company jettisoned the marine and aircraft operations in 1960, and
have since focused exclusively on the U.S. sporting goods market. The company operates two different
types of stores: its original Hibbett Sports stores (see below for images) and its Sports Addition stores,
which are smaller-format athletic shoe and accessories stores.

Typical Hibbett Sports Store Located in a Strip Center Inside a Hibbett Sports Store. Source: Paul Tople

Today, there are more than 1,000 Hibbett Sports stores and just under two dozen Sports Addition stores
nationwide. These stores are found primarily in strip centersand, to a lesser extent, inside malls
located in small- and mid-sized markets in the South, Southwest, Mid-Atlantic, and Midwest. The
geographic location of these stores is not a result of chance. Rather its part of Hibbetts core strategy of
focusing on underserved communities that the competition has either likely ignored or
underemphasized in favor of more densely populated communities.

By focusing on these smaller, underserved communities, Hibbett has successfully targeted and penetrated
a niche marketone in which its known among both vendors and local customers as one of, if not, the
leading provider of sporting goods. This community-based focus has also enabled the company to achieve
lower corporate expenses, including lease paymentsafter all, its much cheaper to operate a store in
Newton, Iowa than it is to operate one in New York City.

However, with the prevailing consumer shift towards online shopping portals and marketplaces (e.g.
Amazon), traditional bricks-and-mortar retailers have had to re-orient their strategies to adopt a more
omni-channel perspective. Hibbett has been no different. In late July 2017, the company announced the
launch of its new e-commerce website, Hibbett.com. With its new e-commerce website, a revamped
brand loyalty program, and a new store-to-home shopping feature, Hibbett is positioning itself to have a
more balanced growth strategy, emphasizing not only bricks but also clicks as well.

Najim Mostamand, CFA 2017

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Solid Track Record of Tangible Book Value Growth

Albeit a crude approximation of intrinsic value, tangible book value is nonetheless a simple metric for
quickly and easily determining the real worth of a company to an investor. For the basis of my analysis,
I am using this metric as a proxy for intrinsic value. A company that is growing tangible book value per
share faster than its stock price growth is arguably creating more shareholder value than the market is
giving credit for by means of the companys stock price, i.e. the company is undervalued.

Such a situation is currently taking shape with Hibbett. As demonstrated by the chart below, tangible book
value per share steadily increased during the time period depicted to $15.68. On the other hand, the stock
price at first surged to a record high above $60.00, before crashing back down and falling recently below
its tangible book value per share.

Note: Hibbett's Fiscal Year End is in Late January/Early February.

On an annualized basis, between the fiscal years 2010 to 2017, tangible book value per share increased
14.1%, compared to the stock price which only increased 6.4% during this period. Even if we acknowledge
that tangible book value per share is growing off a lower base than the stock price, its still remarkable
that the current management has been able to grow tangible book value at such a clip following the
Great Recession and the increased competition, consolidation, and industry and consumer shifts that
have occurred since.

Of course, past performance is not an indicator of future performance. It would be foolish to assume that
the company can continue to grow tangible book value per share at the rate it has over the last decade or
so. Whats important to see is how much of the recent tangible book value per share growth has been
due to management execution and how much has been due to the company simply reducing its share
count through buybacks.

Najim Mostamand, CFA 2017

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Looking at the chart above, one can see that the amount of repurchases has not always been consistent
year after year. In fact, if you plot a polynomial trendline against this buyback activity, you can see that
the amount of repurchases is actually plateauing, despite the strong activity in fiscal 2016. What this
suggests is that managements execution of strategy is perhaps playing a bigger role in driving tangible
book value per share growth than the market gives credit for. This insight gives me some confidence that
management can continue to drive tangible book value per share growth, beyond share repurchases,
albeit at a slower rate going forward due to the expected continued pressure on sales and margins.

Increasing Buyback Activity

I mentioned earlier that Hibbetts share buyback activity is flattening out. However, there is enough
reason to suggest that this might reaccelerate in the near-term, which should act as a catalyst for the
stock.

An area where we can see this trend potentially playing out is the companys historical net store growth
and same-store growth.

Najim Mostamand, CFA 2017

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Its no surprise from the chart above that annual same-store growth has declined rapidly during the last
several years. Whats interesting to note, though, is that for at least another 5 or 6 more years after the
initial annual same-store growth decline, management continued to increase the number of stores on a
net basis. Perhaps this was a concession that the companys growth could no longer be driven by the
amount of footage at its current disposal. Rather, new square footage, primarily in the form of opening
new stores, was needed to spur the growth engine again. Yet, as we can also see from the chart, this type
of growth is not sustainable for several reasons, perhaps the most important of which include:

1. The growth of e-commerce shopping, as seen by Amazons meteoric rise to power;

2. The massive oversupply of retail malls, which has led to a bubble phenomenon akin to the
recent housing bubble that inevitably burst in destructive fashion; and,
3. The significant costs of operating bricks-and-mortar establishments vis--vis a comprehensive
digital commerce platform

While all three factors are certainly worth investigating further, such deep-level analysis is beyond the
scope of this report. Instead, I will focus on the latter of the three factors: the significant costs of opening
and operating a retail store.

Hibbett, like many retailers, has a significant amount of leases, many of which can be very costly. Combine
these high costs of running a bricks-and-mortar retail business with continued declines in sales, and you
arrive at a situation where the company either gets bought out or files for bankruptcy. In the realm of
retail sporting goods, its typically been the latter. Over the past two years, more than 10 sports and
sporting goods retailers have filed for bankruptcy, including Eastern Outfitters, Total Hockey, Golfsmith,
Sports Chalet, and Sports Authority. 1

While such fate has not yet befallen on Hibbett, theres no mistake that a serious re-examination of the
companys capital allocation policies is required. Rather than seeing the company spend big to build and

1
Nathan Bomey, Why sporting goods stores are down for the count, www.usatoday.com, (March 7, 2017)

Najim Mostamand, CFA 2017

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operate new stores, Hibbetts shareholders could arguably be better served with having some of their
capital returned to them in the form of share buybacks. Fortunately for them, this is precisely the
sentiment echoed by management during the companys fiscal Q2 2017 earnings call.

In their remarks, management stated that it expects net store growth to be flat for the foreseeable future.
It also stated that the company will more aggressively repurchase its shares in the back half of this fiscal
year, which can be a big boost to investors in two primary ways:

1. It acts as a catalyst to the stock in the near-term; and,

2. It allows longer-term investors to acquire a larger piece of the business, with the expectation that
the company will right-size the business, shift investments more toward the online channel, and
reap as much of the free cash flow as possible

Although the effects of sluggish sales growth show no signs of abating, its possible that by reducing its
capital expenditures through lower net store growth that the company can continue to generate healthy
free cash flow while still supporting and growing its e-commerce business, which will cost significantly less
than building and operating physical stores. It is also possible that the e-commerce business can gradually
replace and enhance areas of the physical store business, enabling the company to operate on an even
lower blended cost structure. However, it remains too early to tell whether either scenario will turn out
positively for investors. For this reason, Im analyzing this business not through the lens of its potential
growth and retransformation, but rather its current valuation, which one can argue has been unjustifiably
depressed.

Sufficient Margin of Safety

Throughout this report, I have used tangible book value for my analysis of Hibbetts valuation. Though far
from being a perfect proxy for intrinsic value, as mentioned earlier, tangible book value has been an
interesting metric to gauge over the companys entire public market history since it IPOd in 1996.

On the next page, one can find a chart illustrating Hibbetts historical price-to-tangible book value ratio.
For the purpose of remaining consistent with the other charts in this report, I have only included the
portion during which the current management has been involved. Its important to note, though, before
analyzing the chart that Hibbetts median price-to-tangible book value over its 20-year public company
history is close to 4.0x (not shown in chart). Im using the more conservative, and more commonly used,
value of 1.0x as the threshold for determining at a glance whether or not the company is truly
undervalued.

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As one can see, the company breached this threshold in late July of this year. Arguably, this past month
has not been the only time in the companys entire public history that its been undervalued; however,
its fair to point out that perhaps Hibbett has never been as undervalued as it currently is. Granted, one
can argue that the sporting goods industry, and the entire retail industry as a whole, has taken a turn for
the worst these past few years, which would justify the undervaluation. On top of that, one can also point
to the non-industry-related challenges the company is currently facing (e.g. inventory management
issues) as additional reasons for the undervaluation. Yet, while these arguments are valid to some degree,
they dont consider the fact that the company has still been able to grow tangible book value per share
significantly faster than its stock price growth, which illustrates that management must be doing at least
something right to benefit shareholders. The fact that this value creation is not fully appreciated by the
market is hardly a reason to run away from the business.

So, despite the gloomy outlook and considerable challenges Hibbett currently faces, the market may have
been too rash in its judgment of the companys underlying value. At these levels, an investor can gain
comfort that there is a good deal of downside protection in case the companys intrinsic value cannot be
adequately explained by its tangible book value. Even if his or her estimate of intrinsic value is overstated
by 20%an extreme by most standardsthe investor can still reap a gain because of the margin of safety,
which takes into consideration the very strong likelihood that one will reach an imprecise estimate of the
companys value.

Risks and Challenges

As alluded to before, an investment in Hibbett is not without considerable risks. The following are some
specific examples of risks and challenges to the company and to the investment thesis.

Significant Industry Headwinds: The unrelenting growth of e-commerce (Amazon in particular),

continued decline in malls, and an increasing shift by sporting goods vendors toward direct-to-
consumer (DTC) strategies leave Hibbett in an unenviable, and perhaps insurmountable, strategic
position to turn around the decline in sales growth.

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High Competition: The marketplace for sporting goods is highly fragmented and competitive. Hibbett
not only competes directly with sporting goods retailers, such as Dicks Sporting Goods and Big Five
Sporting Goods, but also with traditional shoe stores, like Foot Locker and The Finish Line; discount
stores, like Wal-Mart and Target; department stores, like Macys; and, e-commerce retailers and
marketplaces, such as Amazon. While specializing in smaller, underserved communities is a clear
differentiator, the company has less resources than most of these competitors and faces an uphill
battle in terms of recouping the market share losses it suffered at the hands of more experienced
and established omni-channel strategies.
Vendor Concentration: Major vendors, like Nike and Under Armour have increasingly made up more
of Hibbetts inventory purchases over the years (over 70% in fiscal 2017). If there is a supply chain
disruption with any of these vendors, Hibbett's ability to procure merchandise on-time and in the
desired amounts could be negatively impacted, which can very likely reduce sales. In addition,
because of the overwhelming reliance on these two vendors, Hibbett could see further downward
pressure on its product margins, if they lose any further bargaining power.
Inventory Management Issues: Hibbett has, on average, grown inventories at a noticeably faster
pace than revenue, especially when compared to its competitors over the last 10 years. Its also seen
a noticeable increase in its days in inventory outstanding, suggesting that the company is becoming
less efficient in turning over and managing its inventory. With a backlog of aged inventory that still
needs to be sold through, its likely these inventory management troubles will continue in the near
term, which will negatively affect margins and cash flow.
Nascent Online Strategy with No Track Record: Although off to an encouraging start, theres no
guarantee that Hibbett will be able to successfully scale this business to reverse its fortunes. The
company needs to attract and retain talented employees who have experience building e-commerce
platforms, especially at other bricks-and-mortar retailers. Even if Hibbett can successfully scale this
business, however, theres no guarantee that it can reap any meaningful synergies between its stores
and its online platform.
Significant Operating Leases: Hibbett, like most retailers, relies extensively on this sort of off-
balance-sheet financing to operate its business. While most of Hibbetts store leases contain
provisions that enable it to terminate the lease before it expires if the company doesnt achieve
certain pre-determined sales levels, there are only certain times that the leases can be cancelled,
and the company cannot easily scale these leases up or down. In other words, its possible that the
company can become trapped into making lease payments for underperforming stores for many
years.
Failure of Catalyst(s) to Close Valuation Gap: In my analysis, I assert that a catalyst or two, such as
the companys expected increase in buybacks, will help close the valuation gap, and bring the stock
back up to its tangible book value per share. However, there is a possibility that this might not occur,
and that the market is expecting much more from the company than simply buying back shares. In
addition, there is currently a high short interest in the company, which could pressure the stock down
further if other investors follow suit and short the stock. Should this be the case, the stock will remain
undervalued and have limited upside potential, but considerable downside risk.

Conclusion
While there are numerous risks with investing in Hibbettmany of which I have perhaps yet to fully
comprehendthe attractive valuation makes the stock a compelling investment at these levels.

Najim Mostamand, CFA 2017

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I believe that buybacks will be an important catalyst and form of downside protection. I also think
Hibbetts e-commerce platform can help it make inroads into newer markets, while the company
maintains or experiences a slight decline in market share in its core local and regional markets. The online
strategy is still new and certainly not enough to hang ones hat on. However, the initial traction gained in
acquiring new customers in regions Hibbett doesnt even have a store in, illustrates some of the potential
this platform can have. Frankly, it could be the X factor in helping management continue its solid track
record of tangible book value growth.

Overall, I dont believe Hibbett is an extraordinary business, but I also dont think its a bad one either.
The crux of my thesis rests on the basis that the recent stock market reaction has been overdone, creating
the opportunity to buy a decent business at a fair price. Whether or not the company will successfully
overcome the numerous challenges and threats beleaguering it remains to be seen. However, one thing
appears very clear, and that is the investment opportunity that has emerged to buy a business for less
than what its theoretically worth. An investor can simply buy and wait for the correction to occur, gaining
some comfort in knowing that even if his or her estimate of intrinsic value is overstated, theres still a
healthy margin of safety to offer reasonable downside protection.

Disclosures
I, Najim Mostamand, CFA, currently have a position in Hibbett Sports (NASDAQ: HIBB).

All the information and statements contained in this investment research have been obtained from
sources that I believe to be reliable, accurate, and complete. However, I cannot in any way, shape, or form
guarantee the reliability, accuracy, or completeness of supporting information provided by third-party
data providers.

This investment research and any opinions, recommendations, and estimates contained here represent
my own judgment as of the date of this report and are subject to change without notice.

This report may not be reproduced, distributed, or published without the prior consent of Najim
Mostamand, CFA.

All rights reserved.

Najim Mostamand, CFA 2017