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Financing disappoints Aeropostale investors

by Jamie Mason And Richard Collings  |  Published March 18, 2014 at 2:40 PM

Aeropostale Inc. has received a commitment for $150 million in financing and a strategic partnership from private equity firm Sycamore Partners LLC, disappointing investors who had hoped for a buyout of the casual teenage apparel retailer instead of it gaining more liquidity to execute its turnaround.

The company's stock, which trades on the New York Stock Exchange under the symbol ARO, closed at $5.93 Friday, down 20% from Thursday's $7.30 finish.

Even at its current stock price, one industry source said, Aeropostale was too expensive as a buyout candidate.

The retailer announced on March 13 that it will receive a $100 million five-year term loan and a $50 million 10-year term loan facility from Sycamore, which owns an 8% stake in the company.

The $100 million term loan is priced at 10% and up to 50% of the interest can be paid-in-kind during the first three years and then 20% of the interest can be pay-in-kind during the next two years. The $50 million term loan carries no interest.

The financing includes a sourcing arrangement with Sycamore affiliate MGF Sourcing requiring Aeropostale to complete a minimum of $240 million in merchandise purchases each year for 10 years.

This means that Aeropostale would source its clothing production through MGF -- also known as Mast Global Fashions -- which is 51%-owned by Sycamore after it paid $300 million to Limited Brands Inc. on Nov. 3, 2011, for the stake.

According to industry sources, the deal with MGF is accretive to Aeropostale because it will cut the company's apparel production costs.

One industry source said that Sycamore ended up striking the financing deal instead of attempting to acquire the entire company, since Aeropostale's elevated stock price reflected buyout speculation and not necessarily its fundamental value.

While the financing deal doesn't eliminate future stock speculation, it does mitigate it by taking an acquisition off the table for the time being.

The deal also provides Aeropostale with enough liquidity to effect a turnaround. One other benefit is that a sourcing deal with Sycamore's MGF will be accretive to Aeropostale, an industry source said.

But the source said a buyout in the future shouldn't be discounted, so long as it was based on improving fundamentals at the company and not speculation.

Sycamore, the source said, could profit by limiting itself to this financing deal. It could also choose to acquire the whole company, or under another scenario, seize control if Aeropostale were to go bankrupt, the industry source said.

Aeropostale's stock price has been expensive relative to its recent performance, due to an arbitrage play on buyout speculation, according to the source. When the financing deal was announced, the stock traded down as a buyout in the near-term looked unlikely.

New York-based Sycamore will receive convertible preferred stock that will give it the right to purchase up to 5% of the company's common stock at $7.25 per share. This would bring the PE firm's ownership in the teen retailer to approximately 12.3%, according to the company's statement.

Under the transaction, Sycamore partner Stefan Kaluzny will join the retailer's board of directors, and the PE firm will have the right to appoint another member to the company's board, increasing the number of directors to 12.

Kaluzny, Sycamore's founder, has a history of salvaging retail businesses. While at San Francisco-based PE firm Golden Gate Capital, he saved Eddie Bauer LLC from such a fate, snatching it from rivals such as Hilco Global. Hilco would have liquidated the chain, closing down stores and selling off inventory, while retaining the intellectual property or brand name to license out.

In a statement on March 13, Kaluzny commented, "As demonstrated by our firm's significant existing equity ownership in Aeropostale, as well as this new strategic partnership and financing, we believe there is tremendous value in Aeropostale's business. We look forward to partnering with the company's other Board members and management team to help Aeropostale realize the full potential of its brand."

Aeropostale also has a $230 million asset-based revolver with Bank of America NA as the administrative agent. The revolver is priced at Libor plus 150 basis points and matures on Sept. 22, 2016. The company has nothing outstanding on it.

The revolver's borrowing base was increased to $230 million from $175 million on Feb. 27, according to filings with the Securities and Exchange Commission.

Aeropostale CFO Marc D. Miller said during a conference call late Thursday afternoon that the new financing from Sycamore will allow the company to make sure it has "ample runway to execute our turnaround and all of our strategies."

Miller said that the company will use the $150 million in financing toward general working capital purposes.

During the conference call Thursday, Aeropostale CEO Thomas P. Johnson said, "The terms of our commitment letter with Sycamore Partners are very attractive, provide us with significantly improved financial flexibility, and more strongly positions Aeropostale from an operational and financial perspective. With this capital, we will have additional runway to continue to implement our merchandising, marketing and operational strategies designed to reposition the Aeropostale brand."

Aeropostale ended the fourth quarter with $106.5 million in cash on its balance sheet and reported a $70.3 million net loss for the quarter ending Feb. 1. It reported a $141.8 million net loss for fiscal 2013. The company reported $647.77 million in assets and $367.1 million in liabilities as of Feb. 1.

According to Howard Davidowitz, chairman of Davidowitz & Associates Inc., a national retail consulting and investment banking firm, "this is a high risk turnaround and there is no indication that they will be successful."

The company is suffering because of high teenager unemployment levels and is performing the worst out of its peers in the industry, including Abercrombie & Fitch Co. and American Eagle Outfitters Inc., he said.

"They are in a very difficult sector and they are one of the worst in the bad sector," Davidowitz said, noting that Aeropostale's performance has been "straight down for the past five years."

The company operates 864 Aeropostale stores in 50 states and Puerto Rico, 78 Aeropostale stores in Canada and 151 P.S. from Aeropostale stores in 31 states and Puerto Rico. The company's stores target 14- to 17-year-olds, while its P.S. from Aeropostale stores target 4- to 12-year-olds.

Aeropostale plans to close 175 stores over the next several years and is working with a consulting firm to examine its real estate portfolio, its CEO said during the conference call.

Barclays plc is the company's financial adviser and placement agent. It helped the company explore investment and financing alternatives. Weil, Gotshal & Manges LLP is legal counsel.

Michael Aiello, Douglas Urquhart, Michael Epstein, Kimberly Blanchard, Sachin Kohli, Mariel Cruz, Maxwell Copelan, Jakub Biernacki, Cassie Waduge and Eric Remijan at Weil Gotshal advised the company, The Deal has learned.

Aeropostale spokeswomen Leigh Parrish and Susan Lewis couldn't be reached for comment. Sycamore declined to comment.

Tags: Abercrombie & Fitch Co. | Aeropostale Inc. | American Eagle Outfitters Inc. | ARO | Bank of America NA | Barclays plc | Eddie Bauer LLC | Golden Gate Capital | Marc D. Miller | Mast Global Fashions | MGF Sourcing | Stefan Kaluzny | Sycamore Partners LLC | Thomas P. Johnson | Weil Gotshal & Manges LLP

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