Gaiam (GAIA) – A Value Investor’s Dream and a LULU Shareholder’s Nightmare

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Jirka Rysavy, the founder of Gaiam, is a rather remarkable guy. He came to the US in 1984 from Czechoslovakia with no money, spoke very little English and proceeded to roll up the office supply market into Corporate Express which Staples bought in 2008 for $2.65BN. He also started Gaiam in 1988. Sometime in-between then and now, he bought an 80-acre forested tract in mountains above Boulder, complete with a cabin, no running water and an outhouse so he could live sustainably and meditate. Which brings me back to Gaiam – a company that makes products and media for sustainable living. Gaiam is Jirka’s baby. Up until very recently, Gaiam was a mish-mash of unrelated business units, making it difficult for investors to understand what exactly they were investing in. To give you a sense, since Gaiam began they:

Today, Gaiam only has two business units: branded products (yoga mats, clothing, home goods, etc) and a digital media distribution platform called Gaiam TV. And with the news they announced last week, they will become even more focused, splitting into two separately traded public entities via a tax free dividend distribution later this fall.

It was last week’s announcement that has me extremely bullish about the future of both companies as now each can be 100% focused on their specific niche within the yoga / wellness industry.

But let’s face it: me being bullish doesn’t mean squat. What matters is the value you are getting for the price you are paying, so let’s dive into the value of Gaiam today (I would note that because of the recent sale of their entertainment operations, their 10K will be released a bit late – I expect it in a week or so; given the delay, some of the numbers I present below will need to be updated when the K is filed):

Adding it all up, GAIA’s non-operating assets are worth $145MM. As of 4-Nov-13, there were 17.4MM Class A shares outstanding and 5.4MM Class B shares outstanding, for a total share count of 22.8MM. At today’s price, that’s a fully diluted market cap of $158MM.

That means the market is valuing GAIA’s two operating business units at $13MM. Seems like a steal, doesn’t it?

It is, but only if these units are creating positive value. As I lay out below, I believe each unit has a ton of value today with the optionality of enormous value creation over the long term. Let’s first cover Gaiam Branded Products.

Gaiam Branded Products

Gaiam’s branded products are sold online and through a retail distribution network of 38,000 doors (approx. 70% of revenues are from proprietary products). I can’t over-emphasize this point – Gaiam has built a tremendous network of retailers that already sell their products. Creating new products and pushing them through this channel doesn’t take a whole lot of extra effort. And it’s not just new products – it’s new store expansion and new country expansion that will also drive future growth. On the last call, CEO Lynn Powers made three points worth sharing on this topic:

  1. We think there are lots of opportunities not only to grow our business within those 38,000 doors but also to add some doors as we expand Gaiam Restore because of what’s happening overall with the drug stores like CVS and Walgreens trying to get into health and wellness.
  2. With the growth of the yoga, fitness and well-being market in Europe, we believe we have a huge opportunity to be the global brand for this category. We’ve instituted multilevel packaging, contracted with a third party logistics company in the UK, opened John Lewis with a full Gaiam store within store and lunched Gaiam.co.uk.
  3. We showcased our line at Expo and got good responses from some of the largest retailers in Europe. We will be dedicating resources to opening accounts across Europe with Gaiam’s broad products and expect this business to grow quickly during the coming years.

There are a few things that are obvious to me as I survey the yoga / wellness landscape.

Given the above, I think it’s possible that Gaiam – who has built a solid brand reputation within the yoga community over many years – has a reasonable shot at being the #2 player in the yoga branded products category. They recognize this opportunity and plan to aggressively pursue it over the coming years (announcement here).

With a branded products business that did $145MM – $150MM in revenue in 2013, Gaiam has the scale and the resources to become a major global player in this market. And once a suitable apparel brand wins enough mindshare in the mid-range, I believe people will begin to question the sanity of spending $90 on a pair of Lululemon yoga pants. And it’s this moment – the moment where an authentic yoga brand is readily available to consumers at a lower price point than LULU – that is a LULU shareholder’s worst nightmare.

Gaiam TV

Gaiam TV is a Netflix-like streaming video subscription business focused on holistic living. The stats are compelling and speak to the already-respectable size of this business unit:

Today, Gaiam TV is losing money (EBIT was negative $8.5MM in 2013). But that’s expected… the Company is investing in the platform (making itself compatible with more operating platforms / on more devices, launching in different languages, marketing to grow their subscriber count – particularly internationally). Personally, I am all for this strategy. As long as their acquisition funnel can scale and lifetime customer value is greater than the cost to acquire a customer (this is the magical venture capital formula), they should go full-bore into growth mode and spend as much money as they can signing up as many people as they can.

On the last earnings call, Jirka said that if they want to get this unit profitable they could do it by the end of 2Q14. This tells me two things: (1) they are just a few months away from a key inflection point – the achievement of “scale”, and (2) this business will soon be profitable at management’s discretion. Both of these things lead me to one conclusion: Gaiam TV is a valuable gem of a business.

There are a few other noteworthy items about Gaiam TV:

  1. The cost of producing their own content averages $4,000 per hour (versus $4MM per hour that Netflix pays; it’s an apples-to-oranges comparison, but an interesting data point nonetheless).
  2. Acquisitions can be incredibly accretive. Last year, Gaiam bought MyYogaOnline (a 15k member subscriber base) for 3.3x EBITDA. That multiple is even lower when you consider the corporate overhead that can be wrung out.
  3. Gaiam is talking to all the major cable companies to offer Gaiam TV to their customers (they already have a few thousand subscribers through their Verizon partnership); for customers, Gaiam TV would simply show up as another line item on their cable or phone bill each month.

My partner practices yoga. A lot. But after years of paying $20 per class and getting bored with the exact same yoga routine, she recently switched to practicing at home with online video instructors. To her, the benefits far outweigh the community bonding she gave up: it cost less, eliminates the hassle of driving and finding parking, allows her to practice on her own schedule and offers more diversity / more personal growth. I have noticed this trend with other experienced yogis too.

Every time I see her practice, I can’t help but think of the fantastic business Gaiam has created.

Conclusion

Gaiam has a rock-solid balance sheet with no debt, is focused on unlocking value, streamlining the company structure and reducing expenses. And it’s chaired by the remarkable Jirka Rysavy who happens to own nearly 27% of the Company (note: he owns all the B shares which gives him 77% of the total voting rights making him the arbiter of Gaiam’s future – he’s a man I’m willing to bet on).

It doesn’t take a genius to understand that Gaiam is dramatically undervalued in the public markets. Gaiam’s two operating businesses aren’t worth $13MM. They are worth hundreds of millions of dollars with further upside optionality from there.

The way I see it, Gaiam is a value investor’s dream.


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