Guess? Attempts to Fight Off Global Economic Headwinds

Guess?  (NYSE: GES  ) , an apparel company that generates revenue through retail, wholesale, and licensing segments, is concerned about the global economic environment and cautious consumer. Despite these concerns, Guess? still aims for growth, as should be expected.

However, while every company aims for growth despite economic conditions, some companies are more capable of achieving it than others. The vast majority of apparel companies are facing an uphill battle due to reduced discretionary income for most consumers across the globe.

You also must consider whether or not a company is on-trend, and whether it's capable of pricing improvements. You can determine this by looking at revenue patterns. At the same time, you should check to see if revenue is outpacing selling, general, and administrative expenses, which is often the sign of a healthy company. Other factors, such as cash flow, balance sheet strength/weakness, and valuation should further be considered. When it comes to an industry facing challenging times, you don't want to take any chances.

Concerns about the global economy
In its recent 10-Q filing, Guess? stated concerns for different regions. In North America, low consumer confidence has led to an extremely promotional environment. This leads to margin declines, which then negatively impacts earnings. 

In Europe, Guess? cited several reasons for concern, including sovereign debt, government austerity, credit concerns, and reduced discretionary spending. Unfortunately, Guess? expects negative trends to continue throughout Europe, especially in Southern Europe.

China isn't likely to act as a savior. According to Guess?, Chinese consumers are more cautious than in recent years. The company stated that it sees clear signs of a slowing Chinese economy.

Despite all of these headwinds, Guess? still has a long-term game plan for growth.

The game plan
In 2005, approximately 20% of the company's revenue came from outside North America. Today, that number is approximately 50%. Guess? real growth opportunities seem to lie outside of U.S. and Canadian borders.

Guess? is primarily focused on China, Mexico, Germany, India, the Middle East, and Russia. China and India each have populations north of 2 billion. Therefore, despite recent slowdowns, potential still exists there. Consumers in Germany and Russia are faring better than most other countries throughout Europe. Guess? also plans on developing new markets in Brazil and Japan.

In Europe, Guess? plans to target underpenetrated markets. At the same time, it will reduce its pace of store openings and focus on existing stores through remodels. This strategy has potential, but it's not likely that the company will see significant growth in Europe due to the aforementioned concerns.

Asia presents significant long-term opportunities, but investing against trends is never a good idea, and at the moment, China is slowing.

As far as North America is concerned, Guess? will aim to improve productivity and production at its existing stores by offering a broader product mix at lower price points. This might lead to volume improvements, but lower price points aren't likely to aid revenue and margins.

Let's take a look at how Guess? has performed on the top line versus expenses, while also comparing that performance to its peers, Ralph Lauren  (NYSE: RL  ) and PVH (NYSE: PVH  ) .

Guess? must further cut costs
The retailer's revenue hasn't outpaced its SG&A expenses over the past five years:

GES Revenue (TTM) Chart

Guess? revenue (trailing-12-month) data by YCharts.

In the fiscal first quarter of 2014, Guess? streamlined its structure in Europe and North America to reduce expenses, but it hasn't been enough. In the second quarter of 2013, it made a further attempt to cut expenses by streamlining certain operations in Europe and Asia. SG&A expenses are still trailing revenue, but if you look closely at the chart above, the gap has been closing a little recently. Whether that trend is sustainable or not is questionable.

Guess? isn't the only apparel company dealing with such challenges. Ralph Lauren's SG&A expenses are outpacing its revenue:

RL SG&A Expense (TTM) Chart

Ralph Lauren SG&A expense (trailing-12-month) data by YCharts.

The same can be said for PVH:

PVH Revenue (TTM) Chart

PVH revenue (trailing-12-month) data by YCharts.

However, PVH has clearly outperformed its peers on the top line over the same time frame. Offering such a broad range of brands has helped a great deal. While Calvin Klein and Tommy Hilfiger aren't what they used to be, they're still iconic names, and PVH also sells IZOD, Bass, Arrow, and Eagle. Additionally, it licenses many other brands, including Michael Kors, DKNY, Chaps, Sean John, and Kenneth Cole.

All that said, PVH is trading at 48 times earnings, whereas Guess? is trading at just 17 times earnings. Ralph Lauren is trading at 22 times earnings.

While the company's multiple might look appealing, it doesn't mean much without strong growth prospects. The one argument that can be made for Guess? is that it yields 2.3%, higher than Ralph Lauren at 1% and PVH at 0.1%. However, Ralph Lauren generates the most cash flow: $931.9 million in the past year. PVH generated $424.3 million, and Guess? generated $326.4 million over the same time frame.

Furthermore, Ralph Lauren sports a strong balance sheet, with $1.4 billion in cash versus $846 million in debt. In other words, Ralph Lauren is more than capable of reinvesting in its business and returning capital to shareholders. Guess? also has an impressive balance sheet, with $348.7 million in cash versus $10.8 million in debt, but once again, current and future demand is a concern. PVH has $628.9 million in cash versus $4.3 billion in debt.

Through cash flow and cash, PVH is capable of paying down this debt, but it's still a nuisance that may negatively impact growth potential in the future.

The bottom line
PVH offers the most growth potential, but SG&A expenses are still outpacing revenue, and the balance sheet isn't ideal. On top of that, PVH only yields 0.1%. Ralph Lauren is also seeing SG&A expenses outpace revenue, but its fiscal strength and valuation make it at least somewhat appealing. Guess?, on the other hand, isn't confident about the consumers it targets going forward. Therefore, as I see it, you shouldn't be too confident about Guess?. 

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