Crocs beats and raises again – upside remains

Crocs more so than any company I own right now has executed spectacularly and smashed market expectations. When I first wrote up the stock in October 2020, I noted:

Some quick numbers – the current valuation is $3.1bn and 2021 expected EPS is $2.21 per the linked Barron’s article. As of Friday’s close, the stock trades at $46, or 21x forward EPS. The $2.21 I believe will prove conservative – CROX did $0.83 in the second quarter, which was in part due to some drastic cost cutting actions due to COVID, but I think some of these cost cuts will stick and margins going forward should benefit from a higher e-commerce shift. That Barron’s article mentions one analysts thinks CROX could do $5 in earnings by 2025 – at a 15x P/E that’s a $75 stock, or 63% upside from here. The 21x forward earnings I don’t think is expensive for a company that’s firing on all cylinders right now. Compared to some of the tech names I own, what I’m paying for CROX is growth at an extremely reasonable price. CROX is growing the top line over 10% and seeing 67% global e-commerce growth.

Fast forward to Q2 2021 and CROX in a single quarter did $2.23 in EPS. Yes, this is more than what was the full year estimate a year ago. Analysts ahead of the earnings release had them at $1.60. The company raised guidance again and the numbers are stunning:

Know any other public shoe companies that will grow 60-65% this year with a 25% operating margin?

In this post, I want to talk about the quarter that was and why I think CROX remains a strong buy.

Quarter Highlights

Let’s say it again – CROX is firing on all cylinders through a continued focus on strengthening the brand. The company’s presence on Instagram, Tik Tok and other socials continues to grow through collaborations with the likes of Peeps, Bad Bunny and Balenciaga. 

In part because of these partnerships and the company’s marketing competencies, sales, digital penetration and margins are improving:

Stripping out the impact of COVID and using 2019 numbers (and let’s remember CROX still had an excellent 2020 despite the inevitable soft Q2), CROX sales are up 79% y/y and operating margin has gone from 14% to ~31%. Management is telling us it believes 25% margins are sustainable via its guidance. If you think CROX can eventually get to $3bn in annual sales, that’s $750mm in operating profit. Here are the last few years of sales and operating income as a reference:

In half a year, CROX is already at $1.1bn of sales and $320mm of income from operations. Yep, half a year has pretty much beat the best years the company ever posted.

The company in my opinion is seeing this growth because its investments in the brand are paying off through higher pricing power and the move to DTC / digital keeps boosting margins (already helped by pricing power / less discounting). From CFO Anne Mehlman:

From CEO Andrew Rees:

DTC and digital are growing. Pulling back discounts has not hurt demand at all. Sandals are catching on. Looking forward, I’m excited about Crocs.

Some other notes from the quarter:

– I love buybacks, and CROX repurchased $300mm of shares (2.9mm shares at $103 average price) during the quarter. That’s $350mm for the first half of the year and up about 9x from last year. Yes, relative to the $8.6bn market cap, this is only 4% of the float, but we’re only through half of the year and I love a 4% buyback even more than a 4% dividend (former isn’t taxed, latter is).

To be fair though, the diluted share count is flat since 2019:

– If you’re bearish on the stock from here, you might argue digital is a one time phenomenon because buyers literally couldn’t go to physical stores. You’d be wrong because CROX has had double digit growth in digital every quarter for the last seventeen quarters. It also is seeing growth in its company owned stores, which will benefit from re-opening
– If you want to find fault on the quarter, it’s that management sounds concerned on Delta spikes and resulting supply chain disruptions (suppliers in Vietnam are especially important to CROX). Freight rates already are impacting the company per management. Fortunately, they did acknowledge this is baked into the guidance numbers they issued
– The company is calling out sandals as its next big area of growth

– I’ve mentioned Jibbitz to a few readers in in-person conversations as a hidden call option, and many of you rightfully point out it’s not meaningful revenue and the company doesn’t break it out. However, management did say Jibbitz sales tripled year over year and whenever you see photos of Crocs, probably half the time they’re decked out with Jibbitz. I wouldn’t sleep on Jibbitz as part of the bull thesis. I consider these shoe charms a differentiator for Crocs and something that stands out in photos. Dare I say it’s part of their competitive moat?
– This stuff is hard to plug into a model, but I think Crocs is ahead of the game in brand building when I see stories like these two:

Crocs is a feel-good brand that celebrities and nurses appreciate.

Why I Still Like the Stock

At its current $8.6bn market cap, I think CROX is cheap for a growth stock. Again, $750mm of EBIT (operating income) is reasonable given 25% margins and 3bn of sales, which seems more than achievable in the next five years. Capex this year is going to come in at $80-$100mm per guidance, so it seems reasonable to assume this company in the future could be at at $750mm of operating CF and $150mm or so of capex, which would foot to $600mm in FCF. This means right now the company has a 7% FCF yield looking out a few years. Some rough math below:

However, I think the 15 and 10% growth I have modeled above is conservative (remember also the company’s guidance incorporates supply chain disruption, so 2021 numbers may be conservative). In a bull case where the company sees higher growth, I could see sales getting to ~$5bn and FCF reaching ~$1bn+. At that point I think the stock could trade anywhere from a $10bn market cap (10% FCF yield) to $20bn market cap (5% yield), meaning the stock may be a double plus from here. If the company keeps executing on its marketing playbook and sandals become as popular as clogs are now, look out.

Overall, I don’t think CROX is expensive for a growth stock with growing margins. I think management is excellent and the product is loved by customers and celebrity influencers. The brand has never been stronger and is positioning itself well through a focus on zero emissions and sustainable manufacturing. When a company executes like CROX does, I don’t even think about selling.