Parlux...Wow!

Long-time readers of this site are likely sick and tired of hearing about Parlux (PARL), a stock that has been discussed here many times. Fortunately for such readers, however, this may be the last post on this company

The Rise Of Parlux

When the market goes down, correlations seem to increase, pushing the prices of even good businesses down. While this provides opportunities to the value investor, it also tests his patience; even companies that are doing well can get hammered in the market! Bucking this trend of late has been Parlux, which recently saw several thousand shares trade within striking distance of its net current asset value. As such, Parlux is the latest stock to join this site's Value In Action page, providing some lessons in the process:

Expenses Ahead Of Revenues

Quarterly results can be very misleading. As value investors, we must think long-term and avoid over-emphasizing recent events. Negative quarters for otherwise healthy companies can occur for a variety of economic reasons, including temporary dips in demand or competitor actions. For growing companies, another cause of seemingly poor quarters is expenses that precede new revenues. This appears to be the case for value stock Parlux Fragrances, which saw a drop in price last week following its quarterly earnings release.

Parlux Gets Cheaper

Yesterday, Parlux reported a net loss of over $5 million. The company has recently faced a slew of negative information that has pushed the stock price down significantly. Since Parlux (PARL), producer and marketer of celebrity fragrances, was first brought up on this site, it has fallen almost 20% while the broader market has risen. But for investors who purchased this company for the reasons outlined some six months ago, the current price offers even more reason to buy.

The company appears to have made some bad calls leading into the quarter that just ended. With consumer spending on the decline, the company had locked itself into some expensive marketing campaigns that didn't pay off in the current economic environment. The resignation of the company's CEO last month further wore on the company's shares, as the company's future strategy became uncertain.

However, the reason this company is attractive as a buy remains unrelated to its short-term earnings outlook or even its corporate strategy, which are the two major reasons for the stock's poor performance of late. Instead, what investors are buying is a company with assets that far exceed the company's current asking price. While the stock trades for just $35 million, the company has cash, receivables and current inventories totaling $87 million against total liabilities of just $17 million. As a Ben Graham net-net, the company offers upside potential at this price that is far superior to its downside risk.

Of course, there are risks that the company will not be able to profitably collect on all of these accounts. Inventories have been written down in the past, and some of the receivables are from a related entity that is losing money. (Fortunately, this entity is a public company, so its ability to pay can be judged by the investor.) But there is a sufficient margin of safety present to protect the investor from such issues. Furthermore, despite the company's troubles of late, it has actually managed to increase its cash position as it has liquidated inventory and reduced its receivables. With a new CEO promising to be more cautious when it comes to spending, the company may be able to turn in better results that push the stock price back to a more reasonable level.

Decent returns on capital and substantial earnings growth are not necessarily in the cards for this company. But nor are they required for the investor to see strong returns. The company is being sold at such a large discount to its assets that even mediocre results in the coming quarters should result in decent cash flow and a share price that better balances downside risk with upside potential.

Disclosure: Author has a long position in shares of PARL

Smells Like Value

Parlux (PARL) originates, markets and distributes "prestige" fragrances licensed from celebrities. The company pays royalties to Paris Hilton, Kanye West and other celebrities to sell perfumes headlined with these stars' names.

While the company has been through some rocky times (its subsequently-departed president actually won the award of "Worst CEO" in 2006), the company appears to be back on track. Sales were up last quarter (year over year) in a very tough retail environment, and costs were lower. Sales are expected to be up this quarter as well, as the company has been hard at work bringing in new celebrity fragrances that augment and diversify its product portfolio.

It's not clear that customers will embrace PARL's new products. But what is clear is that PARL is priced such that investors don't have to pay for these profits: the company trades for just $40 million, while it has net current assets of $100 million.

The company does, however, have some risk factors to consider. For one thing, it is owed $10 million by a related retailer that has defaulted on some payments. Furthermore, its rather large inventory of GUESS products ($20 million+) may have to be destroyed if not sold in the next six months. The company has also maxed out its current loan agreements (at $6 million) and is trying to find a new source of debt financing. Finally, while there are just 20 million shares outstanding, there are warrants outstanding for another 5 million shares.

Despite these risks, the market appears to have overpunished this stock. A reading of the notes to the financial statements reveals that 4 million of the outstanding warrants have a strike price of $5, meaning the current price would have to more than double before current shareholders are affected. Furthermore, even after writing off all moneys owed by Perfumania ($10 million) and all inventory related to GUESS ($20 million), the company still offers investors a generous margin of safety. While it's not neccessary that the company execute successfully on its new brands in order for the current shareholder to be rewarded, such success could serve to generate outstanding returns at the current stock price.

Disclosure: Author has a long position in shares of PARL