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DAVIDsTEA IPO: What You Need To Know And What Its Worth

Jun. 5, 2015 1:46 AM • dtea

  • DAVIDsTEA lead underwriters are Goldman Sachs, JP Morgan and Chase, scheduled for 6/5/2015.
  • What makes DAVIDsTEA product special and why it can change how the U.S. feels about tea.
  • The use of proceeds will strengthen their balance sheet and provide working capital for continued growth.
  • The Canada-based retailer is planning on continuing its expansion in Canada and the U.S.
  • The company forecast that they will be able to achieve CARG of 30% and what this means for new investors.

About the IPO

DAVIDsTEA (Pending:DTEA ) plans to offer 5.1 million shares, 2.98 million in new equity, at a $19.00 price, up from a previous price range of $17.00-$18.00 per share and $14-$16 per share. There is clearly plenty of interest in this Canadian tea retailer set to IPO 6/5/2015. Through this IPO, if the DAVIDsTEA can achieve a $19.00 offering price, they will be able to raise a little over $52.2 million after financing expenses. If this IPO price holds, then the company will have a market capitalization of approximately $440 million.

What makes DAVIDsTEA so special

DAVIDsTEA offers a very unique shopping experience if you have been lucky enough to enter one of their stores. My wife and I comprise DAVIDsTEA target market. Middle-to-upper-middle-class urban consumers seeking to live a healthy lifestyle. We lived in Chicago near one of their stores in Bucktown and had the expensive pleasure of shopping at their store. DAVIDsTEA products are fantastic and my wife loves to try what seems like every single tea. As a result of the positive atmosphere and tasty products, our kitchen counter devoted close to 20% of its space to DAVIDsTEA. This is in part due to my wife's love for tea and an apparent contest with her sisters to see who could have the most impressive collection. This brings me to what makes DAVIDsTEA so special, they have a very loyal customer base who always wants more.

The company does a fantastic job keeping customers coming back for seasonal specials ensuring multiple visits a year to try and buy the latest flavors. To put numbers to the claim, DAVIDsTEA has been able to improve their revenue per square foot from $82 as of January 26, 2013 to $108 on January 31, 2015.

No real competition

Another aspect of DAVIDsTEA that makes this company so great is the lack of real competition in the tea space. Currently there is no major competitor outside of Starbucks' (NASDAQ:SBUX ) acquisition of Teavana. Teavana has only contributed approximately $238 million in sales from their company-operated stores in 2014. If DAVIDsTEA hits their goal of having more than 33% of their revenues coming from the U.S. by 2020 then they will almost pass Teavana's 2014 sales in the U.S. Due to DAVIDsTEA lack of real competition in the U.S. they can define what it means to shop for tea in the U.S. and create a wide moat to support continued cash flows.

The use of Proceeds

According to the DAVIDsTEA's prospectus, the company plans to use the now estimated $52.2 million in proceeds for three things. First, they plan to pay $3 million in principal from a term loan agreement from Rainy Day. This term loan agreement carries a 4.5% interest rate. Secondly, the company plans to repay their revolving credit facility. This will strengthen the company's liquidity position from a current ratio of 1.96 to 5.3 before any additions to NWC. The third use of proceeds is to increase net working capital to finance the new store growth. Clearly the company is setting up their Balance Sheet to comfortably grow.

Their plans for growth

From 2011 to the end of 2014 DAVIDsTEA

has been able to double their stores, as shown if the figure to the right. The increase in stores has caused the company's revenue to go from $42 million to $142 million respectively.

The company now plans to continue this impressive growth to add between 25-30 new stores in Canada and 10-15 stores in the U.S. every year. This should allow the company to reach revenue as high as $560 million by 2020.

What this means for new investors: Valuation

According to the F-1 filings DAVIDsTEA stores average 850 square feet. Using this information, in addition to how many stores the company plans to open, we can accurately estimate what expected sales will be. Additional assumptions are listed in the table below.

After factoring in these assumptions we can calculate the estimated Free Cash Flow and generate a DCF valuation. Three cases were created to show a bullish case, base case and a bearish case. Operating expenses include cash and non-cash expenses, with non-cash expenses net their tax benefits. Taxes are assumed at a 35% rate to match Canada's corporate tax rate. The 15% discount rate was used because the company stated in their financials that a 13% discount rate was used for impairment losses. To compensate for risk, a 2% premium was added.

Bullish Valuation

The above free cash flow estimate represents the absolute best-case scenario. If DAVIDsTEA executes everything perfectly and achieves the growth that they want, the absolute high for their valuation should be $29 a share. If the share price goes over $29, the company is drastically overvalued.

Base Valuation

The above free cash flow estimate represents what investors should expect if the company grows at their mid-point estimates and executes according to historical trends. If the company IPO's for $19, and a target price estimate of $18 a share, then new investors may be paying a slight premium to fair market value. In this case, I would not recommend investors jump in.

Bearish Valuation

The above free cash flow estimate represents what investors should expect if the company grows at their low-end estimates and executes below their historical average. This represents a bearish case for investors; and should the stock price fall to these levels, new investors should consider taking a position.

Investment Risk

DAVIDsTEA is a retail company with multinational exposure. This adds additional currency risk to the company's earnings and multinational growth potential. DAVIDsTEA is also a small-cap company and is more vulnerable to market risk. Should either the U.S. economy or the Canadian economy slip into a recession, investors should expect significant downside risk. Historically small-cap companies were among the worst performers in the market crashes like the one in 2008.

DAVIDsTEA is a great company. Many people like myself, and my wife love their products. However from an investment standpoint, it appears that the company's expected IPO price of $19.00 a share is slightly overvalued. New investors should exercise caution before investing. Should the stock price fall close to $13 a share, investors may want to start a position that they intend to hold for more than five years. Should the stock price increase to above $29 a share, current investors should consider selling or reducing their position. I would love to own a part of this company, but it is too expensive for me.

Disclosure: The author has no positions in any stocks mentioned, but may initiate a long position in DTEA over the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Should DAVIDsTEA stock price drop to $14 or $13 a share I will initiate a long position.

Category: Forex

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