This Retailer's on Sale, and I'm Buying

I've been waiting for some of the companies on my watchlist to hit a bump in the road, and one finally looks like it has.

Last week, Fast Retailing (NASDAQOTH: FRCOY  ) reported sales growth of 13% and an earnings jump of 31.8%. But there was disappointment that earnings grew by only 23% in the company's Uniqlo International unit, while same-store sales were soft in Fast Retailing's home market of Japan. Adding to the company's woes are the recent protests against Japan and its companies in China relating to the territorial dispute over the Senkaku/Diaoyu islands.

Having followed the company for a number of years, I believe the current problems are short-term in nature and that the company's international growth plans remain on track. The dispute over the Senkaku/Diaoyu islands is serious, but the economic relationship between the two countries is more important than a few small islands -- even if there are energy reserves to be had. I'm using the recent volatility to start a position in this leading international retailer.

Part cash cow, part growth story
Fast Retailing has five brands under is corporate umbrella, but it is best-known for the Uniqlo brand of affordable, innovative apparel. Sales from the company's Uniqlo stores in Japan contribute 67% of sales and more than 80% of operating profit. This part of the business isn't a fast grower, but it is high-margin and generates the cash to fund international expansion, the development of other brands, and a growing dividend.

The Uniqlo International and "Global Brands" divisions are the rapidly expanding growth stories within Fast Retailing. In the past year, Uniqlo International grew its sales by 63%, while the Global Brands unit grew sales by 23%. That's impressive growth no matter how you slice it. So, while the operating-margin decline at Uniqlo International was disappointing, I believe it owes largely to the opening of one more store than was needed in New York City -- a growing pain that will be overcome in time.

Catalysts coming
More important than the NYC snafu is the fact that Fast Retailing had just three Uniqlo stores in the U.S. during its last fiscal year. It already has opened two more -- one in San Francisco and one in New Jersey -- and has plans to open its U.S. online store this fall, as well. With plans to open its first store in Australia and another 200 to 300 stores globally in each of the next few years, there is plenty of growth still to come from Uniqlo.

The Uniqlo brand is Fast Retailing's primary international growth opportunity, but it also owns the Theory brand and two small French brands, and it is gradually expanding their offerings. One of the experiments is bringing its French lingerie brand, princesse tam.tam, to Japan in a store with Fast Retailing's other brands. I'm not certain this experiment will work out, but I do like how the company is experimenting with ways to combine its brands and bring them to new markets.

Fast Retailing's U.S. expansion is still in its early stages, though it is already accelerating in Asia, where the company opened more than 100 stores last year. With $3.3 billion in cash on the balance sheet, the company can afford to meet its ambitious growth plans and even accelerate its growth when the time is right.

How the competition stacks up
With a market cap of just under $22 billion, Fast Retailing is a large cap. That said, it's still much smaller than Europe's fast-fashion giants, H & M Hennes & Mauritz (NASDAQOTH: HNNMY  ) and Zara owner Industria de Diseno Textil (NASDAQOTH: IDEXY.PK). The table below gives you an idea of how Fast Retailing stacks up against its three closest global competitors on a growth and valuation basis, as well as how reasonably priced the shares are, given their growth potential.

Company

Market Cap (billions)

3-Year Sales CAGR

EV/EBITDA

Price/Operating Cash Flow

Fast Retailing

$21.9

10.7%

9.6 times

13.6 times

H&M

$59.6

6.2%

14.9 times

20.3 times

GAP (NYSE: GPS  )

$17.7

2.1%

8.1 times

10 times

Industria de Diseno Textil

$80.3

11.5%

16.3 times

20.8 times

Source: S&P Capital IQ. CAGR = compound annual growth rate.

Foolish final thoughts
When it comes to investing, there are never any guarantees or perfect information, but Fast Retailing has managed its international growth well so far and has the balance sheet strength to stick to its strategy even if the economic waters get more turbulent. I plan to add shares to my globally focused Orange Portfolio in the next few days and am looking forward to what the next few years should bring.

As a reminder, you can follow along with all my real-money Orange Portfolio trades and updates.

Nathan Parmelee is a co-advisor of Champion Shares Pro and Share Advisor in the U.K. You can follow his real money Orange Portfolio here and his Twitter feed at @GlobalFools. Nathan does not own positions in any of the companies mentioned. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (5) | Recommend This Article (11)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On October 20, 2012, at 7:20 PM, anuragupta wrote:

    Nathan

    Awesome! I was thinking about the same but I decided to wait since this was right down your alley.

    Anurag

  • Report this Comment On October 26, 2012, at 1:00 AM, SuntanIronMan wrote:

    Nothing recent about Japan-China territorial dispute protests in China. Expect those to go on from now until... the end of time, maybe? Haha.

    Though yeah, nothing really to worry about there from the perspective of Fast Retailing.

  • Report this Comment On October 29, 2012, at 8:57 PM, Mega wrote:

    What's their competitive moat? I hope it's not just fashion. Anything that's in fashion can go out of fashion.

  • Report this Comment On October 30, 2012, at 10:11 PM, SuntanIronMan wrote:

    Their 'moat' (if that's the right word) is that they have products from the low end to the high end. You have GU stores at the low end, stores like Uniqlo in the middle and other stores on the higher end. So if some higher-end clothes go out of fashion, they have the low and middle to buffer against it. It is all fashion, but it isn't concentrated in one type of product or at one specific price point.

  • Report this Comment On October 31, 2012, at 10:56 AM, SuntanIronMan wrote:

    I live in Japan and stopped by Uniqlo this last evening to buy a few things. And was at GU the day before getting some things as well. GU is basically Uniqlo Jr (not Jr. as in kids, but price point). GU basically sells more or less the same items (of the same quality), just cheaper and without the Uniqlo brand name.

    Where I live, GU and Uniqlo are on nearly-exact opposites sides of the same street. You'd think they eat into each other business doing that, but it apparently works out very well. Both stores are usually packed (with people like me jumping between both stores).

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