Having Michael Kors in Your Core Holdings Is a No-Brainer

Michael Kors (NYSE: KORS  ) delivered a stellar quarter and hit $1 billion in quarterly sales for the first time. The luxury goods maker sold $1.01 billion worth of handbags, high-end clothing, and accessories during the last quarter. The flamboyant retailer not only managed to handily beat the consensus revenue estimate of $859 million but also saw its top line expand an astounding 59%, snapping a four-quarter run of slowing growth. Its gross margin also expanded 100 basis points to hit 61.2%.


Its luxury goods peer Coach (NYSE: COH  ) had a less illustrious quarter. Although there are investor concerns that Michael Kors shares are pricey, trading at a 12-month trailing P/E ratio of around 33, which is almost double Coach's  12 month-trailing P/E ratio of 17, and far above peers Fossil Group (NASDAQ: FOSL  ) (with 12-month trailing P/E ratio of 20) and Jones Group (NYSE: JNY  ) (with a P/E of 19.)


Investors should not forget that specialty sportswear maker Under Armour (NYSE: UA  ) trades at a 12-month trailing P/E ratio of around 60, double that of its close peer Lululemon, which is trading at a 12-month trailing P/E ratio of around 30. Under Armour's CAGR of 27.4% between 2010- 2012 is considerably less than Lululemon's CAGR of 38.7%. Under Armour is expected to grow its topline and bottom-line at 21.9% and 23.6%, respectively, in fiscal 2014. That growth is comparable to Michael Kors', which is expected to grow its revenue and earnings at 25% and 23%, respectively, in fiscal 2015 (which begins in April 2014.)

These two sectors are not radically different, and therefore Michael Kors shares might still have considerable upside. This may be as much as 30% that can be realized in the next 12 months.

Healthy future growth profile
Michael Kors has the best growth prospects in the luxury goods sector, certainly far better than peers. Coach is the oldest company of the four, and its growth has been slowing down considerably in the recent quarters. During the last quarter, Coach saw its revenue plunge 6% to $1.42 billion, with sales in its all-important North American market dropping 9%, which raised concerns that the brand was losing its American appeal.

In sharp contrast, Michael Kors saw its North American sales leap a huge 51% and also experienced a massive 144% jump in Europe. The brand is rapidly gaining global recognition and appeal. In all likelihood, it's eating the lunches of its North American competitors such as Coach.

Compared to popular European luxury brand names such as Gucci or Louis Vuitton, Michael Kors' merchandise is very competitively priced. Its luxury handbags, for instance, sell mostly in the $400 range; this is at a time when many European makers are sharply hiking their prices to combat slowing growth. Vuitton introduced $3,850 and $5,350 Capucine handbags last year in an attempt to go upmarket.

Michael Kors' globally recognized brands that sell at affordable prices has made them very appealing especially to younger fashion-conscious buyers around the world. Young buyers in places such as China tend to prefer American brands which their bold designs and bright colors, as compared to the big European luxury houses that usually tout their heritage to justify their exorbitant prices. Gucci saw its revenue from China fall in the last two quarters.

Shopping America
American brands such as Michael Kors and Coach have been slow to tap into the rapidly growing Chinese luxury brands due to their rather limited presence in Europe and Asia. The Chinese account for one out of every four dollars spent on luxury goods globally. Coach says that a fifth of its North American sales come from Chinese tourists, which is also the fastest growing group.

Part of the allure that's commonly associated with luxury goods is their sense of exclusivity and exotic-ness, and many Chinese luxury goods buyers are falling in love with American brands. By the year 2022, more than three-quarters of China's urban consumers will be earning between 60,000 yuan and 229,000 yuan (approximately $9,800 to $37,000) per year, up from 68% in 2012 and just 4% in 2000. The huge Chinese middle class with money to spend represents a prime growth opportunity for American luxury brands.

The Euro's 5% gain against the dollar last year made it cheaper for Chinese nationals to shop in Miami than in Paris or Milan. The U.S. has also been easing visa restrictions for Chinese people. As a result, Chinese visitors to the U.S. surged 25% in the first half other year. To take advantage of this, Michael Kors, the maker of $225 studded high-end sneakers and $140 dresses, is using social networking apps such as WeChat to reach more Chinese customers, and also opening numerous new stores in China.

Michael Kors gave a 15%-20% revenue growth guidance for the fourth-quarter of fiscal 2014. That guidance might be quite conservative, however, so shareholders should not be surprised if it actually comes in at 25% or more.

The firm is expected to grow its bottom line at an average 25.3% annual clip over the next five years.

In contrast, Coach is expected to grow its earnings at less than half Michael Kors' pace over the same period.

Final thoughts
Michael Kors far above average revenue and earnings growth was not a one off event, but a phenomenon that the luxury goods maker could sustain for years to come. The rapidly growing popularity of the brand compared to its American and European peers means that the company has considerable growth runways ahead of it.

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