Cabot Turnaround Letter Issue: January 29, 2025

Vestis Corp. (VSTS): A “Suitable” Spin-off in an Overlooked Industry

Lost in the frenzy surrounding all things AI are companies that fall under the “boring but important” category. This includes producers of everyday things we often take for granted but which are nonetheless crucial for the smooth functioning of countless segments of the economy. To be fair, these otherwise “boring” industries quite often provide investors with outsized opportunities for profit due to their under-the-radar nature.

Admittedly, one would be hard-pressed to come up with an industry more anodyne than the one that makes standardized and functional apparel for workers in various fields, be it uniforms for police officers and firefighters or lab coats for technicians. But the uniform industry is, in fact, a large and growing one, with the U.S. and Canada accounting for 40% of the worldwide revenue share, and with the North American end of this market valued at approximately $26 billion.

While it’s not the sexiest of industries in terms of runaway growth, the North American uniform industry is nonetheless expanding at a stable rate, with the market expected to reach $31 billion in size by 2031 (up nearly 20% from the current value if realized). Among the key growth drivers are the workwear demands for sectors like healthcare, manufacturing and construction, with the hospitality space also taking a large slice of the pie.

This is where Vestis (VSTS) enters the picture. The company is a major provider (number two in the U.S. behind Cintas Corp.) of uniforms and workplace supplies, with its primary customer base in the U.S. and Canada. It also has a small but growing international presence via partnerships or joint ventures. The Georgia-based company was spun off in October 2023 from its parent company, Aramark (ARMK), which focuses on food and facilities management services, while Vestis specializes in uniforms and workplace supplies.

The attraction here is the spin-off itself, which occupies an attractive niche for the turnaround investor, as it involves the carve-out and divestiture of a company’s operating segment. As my Cabot Turnaround Letter predecessor, Bruce Kaser, observed:

“Companies do spin-offs primarily because investors undervalue their prospects as a whole. A subsidiary may be too small to be recognized, its strategy and capital requirements may not fit with those of its parent, or its lagging performance may be a drag on the overall company’s results … Some spin-offs are hidden gems that the parent company reluctantly releases. The quality of management, the initial debt load and the resilience and compatibility of the product/service offering are useful indicators of where on the quality spectrum a specific spun-off company sits.”

Among Vestis’ offerings are health care uniforms such as scrubs, lab coats and surgeon gowns, food service uniforms like chef coats and aprons, manufacturing uniforms including cargo pants and work shorts, and automotive uniforms like jackets, coats and pullovers. The company also offers safety apparel, such as masks, gowns and flame-resistant clothing.

Additional products include mops, uniforms, first aid kits, floor mats, towels and linens. It processes more than 345 million garments every day and services over 300,000 customers across more than 340 locations, and its clients range from Fortune 500 companies to locally owned small businesses.

Vestis also offers uniform cleaning and rental programs, which can help businesses manage their uniforms and focus on other tasks. It further provides customization and branding options, such as name and logo emblems, which help businesses enhance their brand recognition.

Aramark’s decision to spin off its uniform services business was predicated on unlocking the potential value within the businesses and allowing both companies to focus on their respective core strengths, while potentially reaching higher valuations in the market by creating separate, independent entities. The main goal in this case being maximizing shareholder value by allowing investors to choose to invest in either the food services aspect of Aramark or the dedicated uniform services of Vestis.

It was also believed that a separate Vestis could pursue its own growth strategies and acquisitions more independently. As it turns out, however, the company isn’t currently pursuing acquisitions but is fielding takeover interest from private equity firms like Apollo Global Management and Advent International.

The firm’s decision to explore the possibility of being acquired comes on the heels of last September’s takeover interest expressed by French rival Elis SA (which Elis later pulled out of) after a 50% share price decline in May of last year. The sell-off came after the company slashed its fiscal-year earnings and revenue guidance.

According to a recent Reuters report, another private equity firm, Clayton Dubilier & Rice, has also expressed interest in bidding for Vestis. Per Reuters, “The potential acquirers submitted initial bids for Vestis in recent weeks [sources said], cautioning that a deal is not guaranteed and that Vestis could opt to stay independent.” To date, all the firms mentioned have declined further comment.

Despite its relatively small market value of $2.1 billion, Vestis also last year attracted the interest of activist investors Corvex, led by hedge fund veteran Keith Meister. Meister’s Corvex purchased a sizable stake in Vestis (17 million shares, or 13% of outstanding common shares) last May and is currently the biggest institutional owner of the shares, with Blackrock, Pacer Advisors and Vanguard each holding around 14 million shares and around 11% of the total, respectively.

Despite last year’s financial setbacks, there are signs the company’s turnaround strategy is paying off, particularly since the appointment of Meister to the company’s board of directors last June. It has cut costs, reduced its debt and is working to revamp its sales strategy in order to generate more business from enterprise customers.

On the latter score, winning national accounts wasn’t part of the growth strategy prior to last year, but as these accounts add route density, make routes more efficient and leverage Vestis’ excess plant capacity, they provide an incremental margin above its corporate average margin.

To that end, it recently won a large multiyear deal with a leading national food services company spanning multiple product categories across both uniforms and workplace supplies. Vestis sees the potential for this account to become one of its largest customers over the next several years. Meanwhile, it also won a large expansion award as part of a recent renewal with an existing top-10 customer in the restaurant industry.

Management believes the new delayered business structure and sales leadership promises “accelerated growth for the company ahead,” and the firm has lately seen an improvement in customer retention rates, which analysts believe validate the firm’s decision to decrease pricing in certain product categories.

As of this writing, Vestis shares remain about 20% under the spin-off date price, suggesting some reticence by the market, but providing an opportunity for investors in view of the company’s takeover prospects.

All told, Vestis’ new business structure is projected to generate $8 million in annualized gross returns while leading to a successful competition of the turnaround plan.

Recommendations

Purchase Recommendation: Vestis Corp. (VSTS)

1035 Alpharetta Street
Suite 2100
Roswell, GA 30075
Web Site: https://www.vestis.com

Symbol: VSTS
Market Cap: $2.1 Billion
Category: Small-Cap
Business: Uniforms & Workplace Supplies
Revenues (2025e): $2.8 Billion
Earnings (2025e): $87 million
1/27/25 Price: $16.10
52-Week Range: $8.90-$22.40
Dividend Yield: 0.90
Price target: $22

Background:

As mentioned above, the initial spin-off price for VSTS in October 2023 was at 20 a share and, after the typical post-IPO rally to 22 four months later, followed by the subsequent drop in the months that followed, the stock finally registered a solid bottom last May above 9. Later last year, the stock kicked off a rally on the back of the takeover speculation, but for the last couple of months, it has been tightening up around 16.

I consider VSTS to be a mid-stage turnaround with the added benefit of a decent buildup of forward momentum in the last few months (one of our favorite set-ups for initiating a new long position since it makes it easier for new buying interest to push shares higher with less effort compared to stocks that are still bottoming).

The window for this potential turnaround is roughly six to 12 months, but a takeover is certainly possible at some point this year.

Analysis:

On the financial front, Vestis ended its fiscal 2024 (in late September) with “solid” results that were in line with management’s expectations for revenue, which was down 4% year-on-year for the quarter but in line with 2023’s revenue and ahead of its expectations for adjusted EBITDA. Net cash from operating activities of $472 million for fiscal year 2024 increased 84%.

The bar has been set fairly low for when Vestis releases Q1 earnings on January 31 (pre-market), with analysts expecting another 4% year-on-year revenue decline, to $689 million (up 1% from the prior quarter if realized), with earnings forecast to be 44% lower at 12 cents a share (up 9% sequentially).

Heading into fiscal 2025, President and CEO Kim Scott commented on the outfit’s “commercial momentum that is building across Vestis,” along with the progress it’s making executing its turnaround initiatives, including strengthening the balance sheet through deleveraging (total debt fell 17% in 2024). Consequently, the company guided for both revenue of around $2.83 billion and adjusted EBITDA of about $360 million to grow on an underlying basis in fiscal 2025.

One of the more compelling catalysts for Vestis is the potential for margin improvement, which a major Wall Street investment bank recently highlighted. At the end of the fourth quarter, Vestis drew attention to its strategic initiatives for enhancing customer service and capturing high-margin incremental volume, which should be enabled by the action management has taken to increase volume growth by changing its go-to-market strategy.

Aside from its increasing number of national account wins (now at a record high for both new logos and risk-weighted revenue in the pipeline), Vestis is reporting success with its small-to-medium enterprise customer base, along with achievements in route sales with existing customers (which grew an eye-popping 50% in Q4).

Specifically, Vestis reported stronger field sales for small-to-mid-sized accounts under its new leadership and structure in Q4, with the new head of field sales making “significant changes” to the firm’s sales training and processes, including implementing more tactical selling strategies or targeting competitor business and converting non-programmers.

Management also guided for an “acceleration” in overall new business wins in fiscal year 2025, with incremental volume expected to outpace lost business beginning in the second quarter.

In terms of valuation, the market is pricing in a recovery as forward P/E has risen sharply in recent months. But the stock still compares favorably to its competitors on a forward EV/EBITDA basis (a metric that’s improving), as well as on a price-to-forward sales (P/S) basis (a key metric), which is currently 53% below the sector median and favorable versus industry competitors like Cintas and UniFirst (UNF).

All things considered, I rate the stock a Buy with an upside target of 22, and I believe management is capable of achieving its strategic objectives through organic growth and cross-selling. And I’m not alone in the opinion that valuation can materially improve as the company gets bigger. BUY

The chief analyst of the Cabot Turnaround Letter does not yet personally hold shares of every company on the Current Recommendations List, but that will change over time subject to the following guidelines. The chief analyst may purchase securities discussed in the “Purchase Recommendation” section or sell securities discussed in the “Sell Recommendation” section but not before the fourth day after the recommendation has been emailed to subscribers. However, the chief analyst may currently hold and may purchase or sell securities mentioned in other parts of the Cabot Turnaround Letter at any time.

Performance

The following tables show the performance of all our currently active recommendations, plus recently closed out recommendations.

Most Recent Closed-Out Recommendations

Notes to ratings:
1. Based on market capitalization on the Recommendation date.
2. Total return includes price changes and dividends, with adjustments as necessary for stock splits and mergers.
* Indicates mid-month change in Recommendation rating. For Sells, price and returns are as-of the Sell date.
** BNT return includes spin-off value in BAM shares.
*** GE total return includes spin-off value of GEHC shares at January 6, 2023 closing price to reflect our sale.
**** Indicates a partial sell.

The next Cabot Turnaround Letter will be published on February 26, 2025.

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