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Anyone shop here? Have a son or daughter that shops here?

True Religion is forging an Earnings Power Staircase and I am trying to determine if it has a competitive advantage.


Hewitt
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I believe TMFPlatoish has been looking at this one. Maybe you can approach him to share his views.

Mark
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Hewitt,

I don't think True Religion is a retailer, but an apparel maker. They make wildly over-priced jeans, which are sold in specialty shops and department stores. I believe they were one of the main drivers behind Urban Outfitters' huge growth story a while back. Here is their Yahoo profile:

True Religion Apparel, Inc., through its wholly owned subsidiary, Guru Denim, Inc., engages in the design, development, manufacture, marketing, distribution, and sale of denim jeans and other apparel for men, women, and children. Its products include denim jeans, corduroy jeans and jackets, velvet jeans, fleece jeans and hooded sweatshirts, skirts, shorts, shirts, sweaters, and sportswear. The company markets and distributes its products under the True Religion Brand Jeans brand name primarily through sales agents and distributors to department stores, specialty retailers, and boutiques in North and South America, Asia, Europe, and Australia. The company was founded in 2002 and is headquartered in Vernon, California.

Check out this link to get an idea of what they sell and at what prices. Look at the $216 denim skirt - how much material cost can there be in that? http://tinyurl.com/yhznct It almost makes me want to learn how to use that sewing machine in the basement.

Seriously though, I took a cursory glance at them about two years ago, but worried that they might be a fad rather than a lasting brand. Of course, I felt the same way about Uggs boots (DECK) at $17/share. That's now at $110, so fashion is not my strong suit (to say the least).

Sorry I can't add much more, but I'd be curious to see what others might say.

Regards,

Paul
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TMFKitKat wrote some pieces about True Religion for an IV board perhaps 1-2 years ago.

Rog
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Paul and Mark -

Thank you for the information. I requested annual reports last week and look forward to reading them. I see in TRLG's latest 10-K that they have 11 stores, which is why I thought it might be a retailer.

My initial instinct tells me this company does not have a durable competitive advantage. There are four broad types of competitive advantages, according to Morningstar: 1) low-cost operator, 2) high switching costs, 3) intangibles, and 4) network effect.

Just for fun, if we run TRLG's growth assumptions through the PIV-ER calculator (see previous posts), then IV is $34, PIV is 56%, and ER is 78%. The key assumption here is 24% annual growth for the next five years, which is our high estimate in this 3-scenario model.

Another model that I use shows a 32% CAGR return every year for the next decade, based on last year's results.

I take these numbers with a grain of salt because, as mentioned above, I do not know if TRLG has a competitive advantage. Nevertheless, since TRLG's chart looks impressive, I bought a starter position. If I own a basket of companies that have the same growth characteristics as TRLG and the valuations aren't obscene, some of these companies blossom into 10-baggers.


Hewitt
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My initial instinct tells me this company does not have a durable competitive advantage. There are four broad types of competitive advantages, according to Morningstar: 1) low-cost operator, 2) high switching costs, 3) intangibles, and 4) network effect.

Hewitt,

I don't know much about True Religion but when looking for a competitive advantage I think you need to see it as Volcom, another aparel maker. They also have a few stores but mostly sell through channels like PacSun and Zumiez. The advantage comes from having a protected brand and playing to a certain niche in the market. So I'd say it qualifies for 3) and a bit of 4). For Volcom 4) is actually quite strong which is a very large reason for their success currently.

The hard part is knowing whether the advantage is durable or not. Fashion can be fickle. But that hasn't stopped brands like Nike to establish a considerable moat.

Mark
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Mark -

Thank you for your insights.

From Morningstar's perspective, a firm has a "network effect" when the value of its service grows proportionately to the number of users.

Take the phone system. If just you and I have a telephone, then the phone company isn't very valuable. There is no "network." But if nearly everyone in the world has a phone, then the phone company is very valuable. We are all able to mutually benefit from the network. An early example of the network effect is the post office. A more recent example is the Internet.

Some market strategists think the network effect is the rarest but most potent of the four competitive advantages because of the "winner-take-all" dynamic. Common trait among companies that exploit network effects is they are early movers to create a standard in an emerging industry. Some companies that benefit from the network effect become monopolies.

Today, a company like eBay has a network effect. The trading portal's value increases alongside the growth in buyers and sellers. Other examples include the Chicago Merc, Western Union, and the Microsoft Windows operating system

From this perspective, I do not think TRLG has a network effect.

As for brands, again, I'd be careful. Fashion is evanescent. It comes and it goes, as you remind us. And, even if TRLG has a brand, we have to be careful. Look at Dow Jones & Co.. Is there any better brand than the Wall Street Journal? If you read John Train's The Money Masters, recall that Warren Buffett considered the business daily "one of the most perfect business franchises." Well, the "perfect business franchise" became less relevant over the last 20-25 years, partly due to the rise of the Internet. Since 1971, the S&P 500 is up about 1,500%, vs. just 250% for Dow Jones (thanks in part to Rupert Murdoch).

TRLG may have a brand, but it is too early to know if it is a competitive advantage.

The reason we want to determine if TRLG has a competitive advantage is because this is the connective tissue between the Earnings Power Chart analysis work, which is history, and our valuation work, which is the future. The more durable a firm's competitive advantage, the longer we we can project above-average growth rates in sales, operating profit margins, etc. This, in turn, results in a higher intrinsic value estimate.

While TRLG is forging an Earnings Power Staircase, I do not believe it has a durable competitive advantage. Thus, my explicit forecast period is 5 years, and then I will pay no more than 10 times earnings in year six. If TRLG had a durable competitive advantage, then I'd go out 10-15 years.

As always, divergent views are welcome on this board.


Hewitt
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From Morningstar's perspective, a firm has a "network effect" when the value of its service grows proportionately to the number of users.

I was thinking of a network effect with Volcom because it targets a certain sub-culture, the board-sporter. The larger the percentage of the sub-culture wears the brand, the larger the pressure on newcomers to identify themselves with the group by wearing the same stuff. This kind of peer-pressure is quite strong.

But I agree it may not grow proportionally and I have no idea if it's also the case for TRLG.

Mark
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TRLG is in the process of 'becoming' a retailer. The 11 stores are fairly new and there are some plans to expand these. Until now they've been mainly a producer of premium denium sold through other retailers' stores.

This transition offers an interesting opportunity for the investor. In one sense becoming a retailer vs. a manufacturer reduces the influence of 'fashion whim' on the financials (as you are not exposed to the whims of the buyers that work for the retailers etc.), but exposes the fledgling retailer to a whole host of additional skills that need to be mastered (real estate selection etc.).

If TRLG can successfully negotiate the challenge towards becoming a retailer, and generate decent returns on capital on its stores, then it could be a spectacular investment as it grows the store base.

Platy
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From this perspective, I do not think TRLG has a network effect.

<de-lurking>

They might not have a network effect, but they've had network coverage-- fashion guru Stacy London and Oprah, touting them on her "Best Jean for Every Body" show. Flat butt anyone?? LOL. Seriously though, a mention on Oprah is a springboard to the big time. And I believe on another show she gave them to the audience....won't swear to that though.

http://www.oprah.com/tows/slide/200511/20051115/slide_20051115_text_406.jhtml

Denny Schlesinger, captainccs, follows TRLG. I know he's talked about it over on the Emerging Retail board.

<lurk>

Fafar
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