Magnet Beauty Products

Magnet Beauty Products 

Fact Pattern

Founded in 2005, Magnet Beauty Products is a start- up company selling premium facial and hair care products. By 2010, the company’s product line grew to almost 100 different products and the work force grew to about 300 employees. The firm’s main competitive advantage is that they sell products made from natural and organic ingredients. They currently have over thirty retail stores opened throughout Massachusetts, which are under leasing arrangements. Their other main customers include hotels in major cities throughout the United States and airlines that sell products to their first class. The owner’s long term goals include selling the company in a few years to a bigger competitor.

Diagnostics

Magnet is highly leveraged, with $20 million in accounts payable and $52 million in debt. The company’s capital structure is roughly 82% liability and 18% equity driven. At the end of 2009, net sales were $52.4 million, up 12% YoY, and expected to continue increasing in the coming years. Net income growth is a bit weaker (+10%) causing mild alarm for the company’s cost controls. The current profit margin for Magnet is 2.7%. If revenue growth continues to accelerate, and the firm remains committed to reducing or maintaining operating costs, there will most likely be room for margin expansion. ROE for the company is currently 8.8%. However, looking at ROIC (Ex-Cash) the firm provides economic value over its WACC (7.4% vs. 6.2%). In summary, the firm is [pic 1]

growing, and so far it is doing a good job at generating value for its shareholders, with a strong potential for greater upside in the future. We expect that with prudent financing decisions, growth, and cost monitoring the firm will be able to sell in the private markets for an above average multiple to E BITDA.  

Options

Janette Clark has two choices regarding her leasing decision, either a three year lease with a renewal option for two additional years, or five - one year leases. Clarke is heavily depending on customer loyalty to grow the brand to her expected size. Due to this, the three year lease with the additional two years would be better support that. A five year lease has the possibility of changing location every year, and customers will most likely not be satisfied with the c onstant moving. [pic 2]

The three year lease allows her retail stores to stay in the same location for the next five years. The three year lease also will keep the payments at a steady amount, while the five year leases will increase in payment each year. The expected EBITDA regarding the five one year leases is drastically less, $7,063,356 than the EBITDA for the three year lease, $17,063,356. The amount Magnet must pay on taxes also significantly increases with the five one year leases, with $780,769 versus the three year leases’ taxes of $416,788. Due to the amortization and debt acquired from the three year lease option, the net income is higher for the five one year leases, and the net margin is also higher for that option as w ell.