retail

Investors like the way Men's Wearhouse deal looks, for now

March 12, 2014: 1:14 PM ET

After a five-month fight, Jos. A. Bank has agreed to sell. Now Men's Wearhouse is the proud owner of a mismanaged rival. Congrats.

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FORTUNE -- Men's Wearhouse may have won the battle for cheap suits, but it may have also lost the war.

On Tuesday, the men's clothing chain finally convinced Jos A. Bank to cut a deal. Men's Wearhouse (MW) will buy its rival for $1.8 billion in cash.

Did Men's Wearhouse end up with a good deal? The two companies say they there will be as much as $150 million in cost savings over three years. And Richard Jaffe, an analyst at Stifel, estimates the acquisition of Jos. A. Bank (JOSB) will boost Men's Wearhouse's earnings by $32 million next year. So not quite $1.8 billion.

Investors are more optimistic. On Oct. 8, shares of Men's Wearhouse were trading at just over $32. The next day, Jos. A. Bank made its bid to acquire Men's Wearhouse, which was the first twist in the road in what led to Tuesday's deal. Shares of Men's Wearhouse are now trading for just over $56. That means investors think Men's Wearhouse is worth $1.1 billion more with Jos. A. Bank. But even that suggests Men's Wearhouse overpaid by $700 million.

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Of course, despite what efficient market theorists think, the end value of the deal to Men's Wearhouse is unlikely to come out to $1.1 billion. Investors rarely give full credit to deals right when they are done. Even good deals can get screwed up. Then again, investors often don't accurately predict disasters, either.

The most obvious earnings boost will come from Men's Wearhouse expanding its tuxedo sales and rental operation to Bank's 623 stores. Bank only recently got into the tux business, and it does it through a third party.

But to expand its tuxedo business, Men's Wearhouse will have to swallow a company that many watchers say had been poorly mismanaged for the past few years. Jos. A. Bank earnings dropped from $100 million three years ago to an estimated $64 million last year. In the same time, Men's Wearhouse's earnings have more than doubled to $122 million, from $56 million.

What's more, it's not exactly a sign of confidence when the executives of a company take cash rather than shares of the newly combined company, which is what Jos. A. Bank's executives are doing.

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Still, Jos. A. Bank's past stumbles could spell opportunity for Men's Wearhouse. Men's Wearhouse will likely try to make Bank, which has traditionally appealed to older shoppers, a little hipper. There could be some added sales in that. But Men's Wearhouse is not renaming Jos. A. Bank stores. And changing a brand's image is pretty tough, especially one that has for years run commercials that seem to say if you just buy one suit, they will give you everything else in the store for free.

Remaking Bank could come at a steep price. Bank's management has long dodged questions about its high inventory levels by saying its shoppers are not fashion-conscious. When you have inventory that you can't sell, you are supposed to write it off and take the hit to earnings. Bank has rarely done that, so its unsold clothes have sat on its books. Bring in new customers, and Bank may have to admit that its clothes do eventually go out of style. That could lead to the conclusion that Jos. A. Bank's weak earnings over the past few years have been propped up by some opportune "inventory management."

If that happens, this deal, too, won't end up looking so hip.

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