TLF - Tandy Leather Factory

[Foreign Tuffett]

TLDR version: TLF is cheap, cash generative, and has a leadership team that is properly incentivized. It has traded down on what I believe are temporary issues that do not affect the value of the underlying business.

 

This Has to Start Somewhere

Tandy Leather Factory is a retailer that sells leather and leather working goods. This is a tiny niche, but Tandy dominates it. From last year's 10-K: "to our knowledge, our store chain is the only one in existence solely specializing in leathercraft." When Geoff Gannon looked at this company in 2015 his conclusion was that Tandy "totally dominates the leathercraft retail market"

 

Tandy currently operates 116 stores. With the exception of one store in Spain, all of Tandy's stores are in the US and Canada. Tandy also sells products via its website and on Amazon. I was impressed when I searched "Tandy Leather" on Amazon and saw how many reviews some of its products had.

 

Some Numbers....but not too many

Tandy generates impressive gross margins, probably as a result of the speciality nature of the products that it sells + its strong competitive position. Tandy has a long and consistent history of profitability. It made money in 2000, it made money during the depths of the Great Recession -- basically it prints a solid operating profit # every year.

 

@ 9/30/2014

Shares outstanding, 10-Q: 10,245,534

Net Cash / (Debt): (3.33M)

 

@ 9/30/19

Shares outstanding: 9,026,024 (my estimate, adjusted for 10/2/19 vest of Carr RSU)

Net Cash / (Debt): $22.6M  (per 10/18/19 8-K)

 

Current Stock Price: $5.08

Market Cap: ~$45.9M

 

What I see when I look at these numbers is a business that, relative to its tiny market cap, has generated large free cash flows over the past five years. Some of this cash has been used to buy back shares, but largely it has piled up on the balance sheet.

 

Leathership

Jeff Gramm, a hedge fund manager and author of the book "Dear Chairman", was appointed Chairman in 2017. Gramm's hedge fund (Bandera) owns ~32% of Tandy. Janet Carr was appointed CEO in 10/2018. Carr's compensation is heavily tilted towards stock-based comp. I think it's fair to say that both Gramm and Carr are heavily incentivized for things to go well here. Both Gramm and Carr also bought stock this March.

 

Carr has spent her entire career working in consulting and retail, but this is her first time serving as a CEO. Everything I've seen in the recent earnings call transcripts indicates that she is financially sophisticated and capable. Carr has simplified pricing (see video below), closed a few stores, and is working on modernizing TLF's supply chain and improving its B2B customer go-to-market.

 

 

SEC filings? What SEC Filings!?

On 8/14/19 Tandy filed a 8-K stating that it had “commenced an independent investigation of issues that include, but may not be limited to, certain aspects of the Company's methods of valuation and expensing of costs of inventory and related issues.” This investigation in ongoing and has resulted in no Q2 and Q3 10-Qs being filed.

 

The most recent 8-K updated was filed on 10/21. Basically the issue is that Tandy’s legacy inventory accounting processes were….not good, and now the CFO is out. However, I don’t think this has much bearing on the value of the business: “None of the accounting issues are expected to impact reported sales or cash for any periods, including prior periods.” It does however, mean that several years of financials will have to be restated.

 

https://www.sec.gov/Archives/edgar/data/909724/000090972419000022/0000909724-19-000022-index.htm

 

Risks

Leatherworking retail is not a growth industry

Tandy could be delisted from NASDAQ due to failure to file its financials

Stock isn’t very liquid

 

Disclosure: I own TLF shares. Positions may change at any time. Please do your own due diligence. This post is not meant to be a comprehensive discussion of TLF, just a preliminary sketch.

 

 

[LC]

A few things to note.

 

This is a hobbyist supply business, similar to home beer brewing, soap and candle making, all the things you'd find at the local farmer's market essentially.

 

As such, a lot of the competition is from small, private shops and in the case of leather, ranches. There are also tanneries which have greatly consolidated (Horween is the last remaining US one I believe - could be wrong about that so pls fact check if you look).

 

Not saying it's a bad investment, but the competition is almost solely localized, from mom & pop operations, and the market is zero growth.

 

PS: I also throw this into the "Value Investor's 101" pile. It always screens well, and so usually younger investors reading and learning will find it and analyze it. I know because that's exactly what I did years ago :D :D

[LC]

Here is her vision:

 

Here’s a 100-year-old company, publicly traded, with more than 100 stores and 700 employees, in the niche market of leather crafting. But that niche of leather crafting is right in the bull’s-eye of a broader crafting / maker / artisanal movement — and that category has all kinds of reasons to be growing. We’re already the biggest national leather retailer, so we have a diverse customer base. Our core customer might be buying leather tools, leather belts, and saddles. We also have many other customers — for example, people in fashion, shoemaking, cosplay (costume play, like Comic-Con), bookbinding, and bag making. We have growing potential right now to reinvigorate both our retail and wholesale channels with greater focus and customization.

 

Seems like an expansion strategy. Could work.

[writser]

Nice first post. I don't have much to add. This name was also written up this summer by another blogger:

 

http://shadowstock.blogspot.com/2019/06/buffet-would-buy-this-specialty-retailer_9.html

 

TLF was on my radar for a while but I never pulled the trigger, this being a crappy retailer and all. I couldn't resist buying some shares after the accounting 'scandal', NASDAQ notice and the subsequent price drop. As far as I could see the accounting issues were mostly a non-issue: yes, it raises some questions about internal controls, will probably take some time and money to fix but it looked to me like they were looking into some minor problems - not super relevant for valuing the company (and fortunately they're a bit bigger than Solitron). I.e. it seemed highly unlikely that they were cooking the books. The 8K from October, 18 confirmed this (though I could have been just lucky).

 

Now comes the hard part which is when to sell. This is probably not a great business but has a solid balance sheet, decent cashflow and supposedly decent capital allocation given the board representation. Still looks cheapish at this point but I'm not going to hold on to wait/hope for a turnaround. Low conviction, small position.

[CookingByTheNumbers]

Here's a write-up that I encountered a few months back.

 

https://poundtherockinvesting.wordpress.com/2019/07/19/tandy-leather-factory-tlf-a-cheap-business-with-a-path-to-a-decent-return/amp/?__twitter_impression=true

[Foreign Tuffett]

Here's a write-up that I encountered a few months back.

 

https://poundtherockinvesting.wordpress.com/2019/07/19/tandy-leather-factory-tlf-a-cheap-business-with-a-path-to-a-decent-return/amp/?__twitter_impression=true

 

Yes, that's a well thought out piece.

 

One thing I don't completely agree with is the "we can't find enough managers to expand our business" issue. Tandy has traditionally served both retail (aka leatherworking hobbyists) and B2B/wholesale (aka people who work on leather for a living) out of its stores. In practice, this meant that managers spent lots of time away from their stores visiting large accounts. Carr has (IMO correctly) recognized* that wholesale customers are best served by a dedicated inside sales team. I think this change will let managers focus on running their stores which, in turn, will mitigate some of the personnel issues that always seem to come up whenever anyone writes about this company.

 

* See the Q4 2018 and Q1 2019 transcripts

[writser]

Yep, that one popped up during the year but somehow I forgot about it. Thanks for bringing it up, an interesting read indeed. A few thoughts:

 

1. Honestly I think that if you say this is a 'Buffett'-like business I think you are deluding yourself. Retailing is not exactly a great business lately. Yes, I understand the argument that a physical store is an advantage for people who want to buy hides but that same argument was made by people about literally anything sold on the internet: books, clothes, cars, holidays, whatever. And they were all wrong. Also, as far as I understand hide sales are relatively low-margin.

2. I'm hard pressed to believe that leatherworking itself is booming either. Maybe some hipsters are sewing their own belts or whatever but if anything I'd think that it is a hobby that is hardly growing or, more likely, declining in popularity.

 

So all in all, the future doesn't look too bright to me. My base case scenario is basically that the new manager has great plans (like always), burns some money to try and implement them, not much happens and business plods along or even declines a bit.

 

The good thing is that TLF has an enterprise value of ~$20m - $25m (taking, the cash balance from the latest 8K, no point in trying to pinpoint EV exactly without current financials, also I am lazy) so it is probably cheap even in the base case scenario. FCF has been ~3.6m the past five years. The write-up listed about talks about $8m but that number is basically useless due to inventory shrinkage (to be fair: that is mentioned in the blog post). So, if the company plods along you are looking at a ~16% FCF yield and a 2.5x trailing 5y EV/EBIT. This is all pretty basic, we could go into more detail but it seems obvious to me that this thing is cheap, even if business declines slightly. A more difficult question is: what is it actually worth? I'm not holding for the turnaround-multibagger potential, would gladly sell at $8 / $9, perhaps even lower. Still, that's a long way from here.

 

Finally, one thing that surprises me: as far as I can see insiders didn't buy shares since the drop this summer. I'd have expected Banderas / Pappas / Carr to step up to the plate. Is there some blackout period due to the accounting issues that I am unaware of?

 

I am also not sure about the buyback program. As far as I see the program was originally in place until August 2019. The accompanying line of credit has been extended but I have seen nothing about the program itself being extended, nor any other news on the buyback program other than the fact that they spent $715k in Q1 and that the number of shares outstanding was unchanged as of May, 7. In fact is a company even allowed to buy back shares if it is not current on its filings?

 

Seems a bit strange that nobody is buying with shares at a 5-year low.

[rukawa]

FCF has been ~3.6m the past five years.

 

I think that is a bit low. I see

 

March 30, 2014: Debt = 2.5 million, Cash = 9, Net ~ 6.5 mil cash

 

March 30, 2019: Debt = 0, Cash = 17.6 mil, Net = 17.6 Cash

 

Change over 5 years in cash ~ 11 mill

 

In addition I should include the cash used for sharebuybacks. Shares over the 5 years go from 10.2 mil (mar, 2014) to 8.9 mil (Mar, 2019). That is 1.3 million shares which at 7 a share on average would amount to another 9 mill. In addition they issued a special dividend of 0.25 per share in 2014 which gives you another 2.5 million in cash.

 

Total free cash over the 5 years is therefore 11 + 9 + 2.5 which is 22.5....over 5 years that means FCF = 4.5 million per year. My FCF yield is closer to 20%.

 

If I take the numbers included in the initial post of the thread based on Sept 2014 - Sept 2019 I get 26 mill cash change + 1.2 mill shares * 7 = 34 million cash and that would give 34/5 = 6.9 million cash / year in FCF which implies a 30% FCF yield.

 

Splitting the difference I get a 25% FCF yield and FCF = 5.5 million.

 

I guess you are saying this number is too high due to one time sell-offs of inventory?

[writser]

I simply looked at Dec '14 - Dec '18 CFFO minus CapEx. During these 5 years working capital increased by $8m or something. If you adjust for that then yeah, you get to around $5m / year. They also opened a few new stores these years so you could argue a bit of the CapEx could even be classified as growth CapEx. And if you look at Sep '14 / Sep '19 the numbers are undoubtedly even better. I'm just being conservative. As I said, without current financials and with the company focusing on working capital management I don't think you should extrapolate too much from the past few quarters and subsequent 8K's.

 

The important question is: what kind of normalized FCF can you expect going forward? I think $3m -$4m is a quite conservative guess (that's how I roll). $6m - $7m is a more aggressive assumption which I would be less comfortable with. The truth is probably somewhere in the middle and the good thing is that it is cheap even in the first scenario.

 

Also, FWIW IR told me the 10b5-1 plan was suspended in July 'out of an abundance of caution'. And they can only restart purchases under the program when they are current on their financials. Kind of typical. The company is happily buying at $7 / $8 for years but when the shit hits the fan and shares trade below $5 they stop buying.

[Foreign Tuffett]

Other than that it will probably be at least at an acceptable level given the current valuation of the company, I don't have a strong opinion about exactly where FCF will come in at over the next few years.

 

If you adjust for all the one time items that hit in Q4 of last year, adj operating profit was ~$6.23M between Q2 2018 and Q1 2019. So EV right now is ~3.9x the most recent TTM adj operating profit # we have. That seems quite cheap given the company's long history of being solidly profitable and its competitive advantages (two sides of the same coin):

 

800 pound gorilla of its tiny niche

 

Owns its HQ/manufacturing facility/flagship store

 

Destination-based retailer so doesn't need expensive locations

 

Solid gross margins given the specialty nature of its products

 

Partially insulated from online competition via the experiential nature of leatherworking and the fact that hobbyists need/want to see and touch the products. "Will this exact piece of leather work for my project?" "Will this tool produce exactly the shape and size puncture that I need for my project?" "How exactly does this tool work?" "What color with this stain produce?"

 

 

[Foreign Tuffett]

Geoff Gannon podcast from April 2018

 

https://focusedcompounding.podbean.com/e/ep-22-tandy-leather-factory-tlf/

 

 

Jeff Gramm on how he became involved with the company

 

http://investorfieldguide.com/gramm/

[writser]

There's now also a gazillion-page write-up on VIC.

[Okonomen]

There's now also a gazillion-page write-up on VIC.

 

Haha yeah I noticed. Like.. the longest write up in VIC history :D

 

However, I'm just concerned about the secular decline in this industry. I think fewer and fewer people find this craft interesting?

 

And their district manager move a few years ago put a lot of pressure on margins..

[Hielko]

I expected a longer write-up based on these comments, it's not that crazy

[Foreign Tuffett]

I printed out the VIC write up and had it made into a book. My goal is to finish reading it by the end of this year. Right now I am on page 457.

 

Jokes aside, there is one part of the write up that I didn't understand:

 

"NASDAQ accepted TLF’s plan to regain compliance, granting TLF an extension until February 17, 2020 to file its Q2 2019 and Q3 2019 10-Qs.  So February 2020 is the likely launch date for the stock."

 

Any thots on why the author was so confident TLF would get its filings up-to-date by the deadline? My interpretation of the situation is that, while TLF has submitted a plan to regain compliance, it actually regaining compliance before being delisted is far from being guaranteed.

[misterkrusty]

but so what if they get delisted?  wouldn't they get re-listed upon filing their financials?

[misterkrusty]

Okonomen-  google "maker movement"

[Okonomen]

Okonomen-  google "maker movement"

 

I'm not convinced... Judging by their results it seems like a shrinking industry

[misterkrusty]

what you're seeing in those results is a failed international expansion attempted by the former CEO.  But if you peel those revenues and losses away, you'll see the US biz is doing fine.

[Okonomen]

what you're seeing in those results is a failed international expansion attempted by the former CEO.  But if you peel those revenues and losses away, you'll see the US biz is doing fine.

 

The US biz is... chugging along.. lower revenues in NA today than in 2015 despite more stores. It doesnt look like the maker movement is affecting much

[porcupine]

Getting closer and closer to the day. I'm not sure where the confidence from the author was coming from. Your interpretation seems correct.

 

Perhaps those who were comfortable with this proposition will become sellers on Monday (February 17th). With a $47mm market cap, is it even worth the compliance costs for the company to stay listed on the Nasdaq and comply with the SEC?

 

Either way, this still looks extremely cheap... and may become cheaper on Monday.

 

No position.

 

 

I printed out the VIC write up and had it made into a book. My goal is to finish reading it by the end of this year. Right now I am on page 457.

 

Jokes aside, there is one part of the write up that I didn't understand:

 

"NASDAQ accepted TLF’s plan to regain compliance, granting TLF an extension until February 17, 2020 to file its Q2 2019 and Q3 2019 10-Qs.  So February 2020 is the likely launch date for the stock."

 

Any thots on why the author was so confident TLF would get its filings up-to-date by the deadline? My interpretation of the situation is that, while TLF has submitted a plan to regain compliance, it actually regaining compliance before being delisted is far from being guaranteed.

[writser]

Yes, it will be interesting to see what happens on Monday. Though what wasn't mentioned in the VIC write-up is the possibility that Nasdaq grants an 180-day extension. See the bottom publication in this pdf. I think that is possible (not sure, maybe it should have been announced by now?) and if so, that would not seem unlikely to me given that this is not some clown company.

After review of a company's plan of compliance and a hearing, a Panel may grant the company additional time to remain listed or determine that the company should be delisted. A Panel may not, however, grant an extension which would exceed 360 days from the due date of the initial late filing

 

I trimmed my position a bit in January. I wouldn't mind the stock drops like a brick so I can buy them back on the cheap. I don't think anything material has changed but some shareholders might be getting cold feet.

 

And yes, I think it is cheap but I'm not sure it is _extremely_ cheap. In my opinion that depends on 1) long-term prospects of this business, which I'm not sure about and 2) the success of the turnaround plan (ok, ok, "strategic initiatives") of the new CEO, which I'm also not sure about.

[Foreign Tuffett]

Yeah, I agree that we can expect to see some sort of announcement out of the company in the near future. Janet, if you're reading this please, if nothing else, give us the YE 2019 cash balance in the next 8-K.

 

Given that we're now three Qs behind on the financials, this is a high uncertainty situation. The uncertainty though, is offset by the low valuation and management and board being heavily incentivized to make this work. The two largest risks here are (a) the business results fall off a cliff (b) the financials restatements drag out for an extended period of time and drain the company's cash hoard

 

[AlanS]

Just an update , a former fund ,Beddow Capital Management Incorporated , bought into the company

 

https://secfilings.nasdaq.com/filingFrameset.asp?FilingID=13925336&RcvdDate=2/14/2020&CoName=TANDY%20LEATHER%20FACTORY%20INC&FormType=SC%2013G/A&View=html

 

Did a quick check and that this fund is a "money where your mouth is" fund where the fund manager invests his net worth along side with the investors. It now currently holds a "smallish?" position of 2 million , 4+% in the company, and I am surprised this did not move the stock price much, and he would have probably accumulated over the period of more than a month given that average share turnover is low.

[AlanS]

My thoughts on this company are as follows

 

Pros

1) Company seems relatively safe , but main issue is very high inventory .

2) Common problem is not on expansion but lack of store managers, currently it is consolidating to larger format stores and also improving its hiring process (more pay, more operating costs ?)

3) This is a very high gross margin business. Competitors even buy inventory from Tandy, ones which it does not hold. It had breath of inventory as well as depth (which leads back to the problem of (1) high inventory

4) Good Leathership/Leadership. Activist Investor , so management probably wont pull tricks.

5) This company was almost a net-net.

6) Strong and consistent cashflows.

 

Issues

1) Accounting issues on accounting for its inventory. We dont really know if its been overstated.

2) Delisting ? Low share turnover , high listing costs

3) Leather-crafting may be considered a dying trade by many. (arguable)

4) Room for improvement on inventory turnover