Buyout giants Warburg Pincus and Texas Pacific Group last week agreed to buy luxury retailer Neiman Marcus Group Inc. (NYSE: NMG.A, NMG.B) for $5.1 billion, but the real private equity winners might be a couple of lower middle-market guys in suburban Boston.
Neiman Marcus is a Dallas-based retail conglomerate, operating 35 of its namesake stores, two Bergdorf Goodman department stores in New York City and 14 Last Call clearance stores. It also features a print and online catalog business, plus a credit card unit.
The company’s common stock price had been steadily climbing since mid-2003, with most trades in the range of $40 to $60 per share. The rise made sense, according to Neiman Marcus’ scant number of analysts, as consumers were increasingly likely to overpay for perceived luxury items, while simultaneously cutting corners elsewhere. Consider it the dichotomy between someone who buys $4 lattes at Starbucks during the workday, but buys 10-packs of Folgers at Costco on the weekend.
The real public market movement, however, came last fall, when word came that Neiman Marcus would put itself on the block for upwards of $5 billion, including a possible side sale of its credit card unit. It is unknown whether investors simply were remedying earlier under-pricing, or if they were counting on the irrational exuberance of LBO firms, but the result was a dramatic rise in Neiman Marcus’ stock price. It busted the $60 per share mark on Oct. 28, 2004, and never looked back. It hit $71.50 per share by year-end 2004, and rose to $85.90 as press reports revealed that the company had retained Goldman Sachs to run the auction. On the last day of trading before the TPG and Warburg agreement was announced, Neiman Marcus common stock closed trading at $98.16 per share.
The final agreement finds TPG and Warburg Pincus paying $100 per share of outstanding Neiman Marcus common stock (including the credit card unit), with each firm serving as an equal partner. No equity-to-debt ratio has been disclosed, and analysts suggest the purchase price is between 10.2x and 10.3x EBITDA. Class A shareholders are expected to vote on the deal by November, while company Chairman Richard Smith-whose family owns nearly 15% of the company via Class B shares-already has given his blessing.
David Barr, a managing director with Warburg Pincus, believes that Neiman Marcus was undervalued prior to the buyout talk. Among the reasons, he says, are the dual-class stock arrangement with a large individual shareholder, limited analyst coverage and the company’s relative absence from the capital markets for the better part of a decade.
Barr adds that senior management will remain in place, with growth coming from an acceleration of new store openings, plus continued expansion of its online presence. The key, he says, is an anticipated increase in Neiman Marcus’ target customer base of 45 to 60 year-olds making in excess of $200,000 per year.
Not everyone, however, agrees with Barr’s assessment. Kim Picciola, a retail analyst with Morningstar, suggests that TPG and Warburg severely overpaid at $100 per share, because the luxury buying trend might be nearing the top of its cycle. Moreover, she believes that Neiman Marcus has outperformed certain peers like Saks Fifth Avenue because it features fewer stores, not in spite of it.
“There is a competitive advantage to being small and selective,” Picciola says. “It helps to build a cache for the brand because it has more of an aspiration to it… Lots of Neiman Marcus’ products can be found at other department stores, but people buy them at Neiman Marcus because it is seen as something special.”
Whether or not TPG and Warburg Pincus overpaid or underpaid, two private equity pros in Newton, Mass. will soon be counting their millions.
Richard Smith and Brian Knez are managing partners of Castanea Partners, a lower middle-market buyout firm currently investing out of its $207 million second fund. They also are former co-CEOs of Neiman Marcus, current vice chairmen and the son and son-in-law, respectively, of the aforementioned Richard Smith. Each man stands to gain tens of millions from the $100 per share price, while their senior relative will gain nearly $650 million (of which he’ll probably share at least a bit).
Neither Smith nor Knez agreed to be interviewed last week.