Wednesday, February 15, 2006

Will Yankee Candle Burn Investors?

Specialty candle manufacturer Yankee Candle (YCC) reports today at 11AM.

We brought your attention to the stock last December when it was trading at $26:

While some of Yankee's manufacturing components could come under pressure because of energy costs, we feel that the company's prospects look very strong going forward, but we are initiating coverage on shares with a neutral rating.

Yankee's claim to fame is its sky-high return on equity, which is an unbelievable 70%. Yankee's brand dominance, homegrown management, and robust balance sheet are other positives. Short term, however, Yankee's future looks uncertain -- our sources tell us that inventories are shooting up. We're also getting reports that Yankee is repurchasing stock but borrowing money to do so. Aren't companies supposed to use free cash flow for stock buybacks?

All four analysts that cover Yankee seem to be as torn over the stock as we are -- all four have hold ratings. We think that's because Yankee Candle's earnings growth rate is 17% , which is hardly any higher than that of its peers.We expect Yankee to hit $1 B in revenues by 2009 -- at 13 X 2006 earnings, Yankee's not expensive by any means.

While we really have no case against this company's strong fundamentals, there are a couple of reasons we are not buyers of YCC today.

One, Yankee Candle is a seasonal stock -- Christmas is 9 months away. Two, Yankee has arguably saturated its channels -- the candles are now everywhere, including Walmart (WMT). Lastly, the candle business as a whole is becoming less and less of a profit generator.

And although we haven't been able to confirm it, one of our sources also tells us that an executive at Yankee Candle (who was recently fired) was caught drunk at a bar, spewing about how the company was cooking the books.

Taken together, the risk-reward becomes less attractive.

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