Will Sotheby's Bid Up as Business Improves?
For some time now, Sotheby's has been watched by value-conscious investors compelled by the rebounding art market and continued growth, previously thought to be stalled by a leveling-off Asian market. Trading near its 52-week high -- almost a 45% climb since last October -- the stock has erased much of the deep-value opportunity, but it may still have room to run yet. Activist investors have gotten involved as well, including the high-profile Dan Loeb, whose firm has taken a near-6% stake in the company. With an impressive stockpile of cash, a manageable debt situation, and ongoing improvements in the art market, is Sotheby's bid going up?
The art market has had a great run in the years following the financial crisis. Some wealthy investors who would otherwise pile into stocks and bonds have turned to art collecting as a more attractive asset class. Everything from Warhol to vintage multimillion-dollar Aston Martins, and even contemporary artists' work, is attracting collectors from around the world, and the auction houses' fees are reflecting the change.
Sotheby's has actually missed earnings estimates for two quarters, but it hasn't been enough to slow the stock down as investors are convinced this a good space to be in. While rampant, noncompany-specific speculation is not a quality one might seek in a value investment, the upside here is if the company can fully capitalize on the trends and generate alpha for investors (an individual stock's performance, independent of the market's overall moves). Sotheby's has still benefited from very favorable year-to-date auction trends over the prior year.
Auction houses run a seasonal business, with the big earnings coming in quarters two and four. The first quarter is soft, but the year's bellwether events take place during this time -- Impressionist and Contemporary nights. These two auctions are indicators of the year's market, and last winter's results showed strong comps, boding well for the remainder of 2013's auctions.
Beyond market conditions, value players such as Loeb and Marcato Capital's Mick McGuire are likely attracted to Sotheby's moat -- it is one half of a duopoly, split with U.K.-based Christie's. There is also the news that the company is selling its New York headquarters, and its value is not fully realized on the current balance sheet.
Valuation comparisons are difficult, given that Sotheby's is the only major publicly traded auction house. However, investors should take a look at other luxury brands. It's no secret that this segment has performed well in recent years, with stocks such as Michael Kors returning well into the triple digits and trading at a forward P/E of 22 times. At this viewpoint, Sotheby's is on par based on current estimates. If the company is able to improve margins and boost top- and bottom-line sales, fully leveraging market conditions -- or if the headquarters sale proves to unlock hidden value -- forward-looking earnings could easily rise and prove the stock to be undervalued today.
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