A Stylish Company with a Sustainable Future

Individual investors operate in wildly different ways, but as a class we are often guilty of the same mistakes. One such error that I myself am frequently guilty of is having a narrow focus on fiscal data. The figures found in financial statements are indispensable for us appraisers of publicly traded companies. However, there often exist sources of intrinsic value which cannot be easily and accurately measured in terms of dollars and cents.  

A different type of report
Financial reports break down and analyze performance in monetary terms. On the other hand, a sustainability report seeks to gauge the impact of a company's performance in a more holistic sense. Sustainability reporting goes by many names: Triple-bottom-line reporting, corporate social responsibility reporting, and ecological footprint reporting are a few examples.

The most commonly accepted international standards for sustainability reporting are promulgated by the Global Reporting Initiative, or GRI, a non-profit organization. The GRI's mission is to make sustainability reporting common practice. It defines a sustainable economy as one which "combines long-term profitability with ethical behavior, social justice, and environmental care." In conjunction with its mission, it releases guidelines for sustainability reporting. These guidelines generally pertain to the impacts a corporation has in four spheres: economic, environmental, social, and governance.

Sustainability reporting is not mandatory
The obligatory nature of financial reporting does not apply to sustainability reports. However, companies that do furnish these reports accumulate numerous benefits. A sustainability report is a platform for a corporation to elucidate its values, an opportunity to demonstrate that its concerns extend beyond the bottom line. In commissioning a sustainability report a company incurs an unnecessary expense to provide stakeholders with more information. Talk about beneficial!  

As I perused the investor-relations section of Coach's  (NYSE: COH  ) website, I was impressed by the company's decision to begin furnishing sustainability reports. It released an inaugural report last year and similar reports will follow on an annual basis. Michael Kors  (NYSE: KORS  ) , a competitor with a high-flying share price, has no plans to produce a sustainability report.

Supply chain stewardship
Coach has selected four pillars of sustainability in conjunction with cultivating its brand: Employee engagement, supply chain stewardship, environmental conservation, and community empowerment. The improvements it is making in regard to the pillar of supply chain stewardship are worthy of investor attention.

Third-party manufacturers make all of Coach's products. The company maintains control over its supply chain primarily by contractually ensuring that its third-party manufacturers abide by "Social Compliance Guidelines." By entering into these contracts the company ensures that the people who gather the raw materials for, and assemble, its products receive minimum wage. The guidelines also forbid manufacturers from using child labor or inflicting corporal punishment, and they include various other protections for workers.

To ensure compliance with the guidelines, Coach audits each of its 163 factories at least once per year. Last year Coach conducted 273 of these audits, and 70% of them took place in China. When a factory fails an audit Coach typically conducts a followup audit in six months. Reasons for unacceptable audit results include minimum-wage violations and falsified records. The vast majority of the company's suppliers passed their initial audits in 2013. 

Michael Kors doesn't have written agreements with any of its third-party manufacturers. Its largest manufacturing contractor operates primarily in China and produces nearly one-third of the company's finished products. This contractor has been doing business with Michael Kors for nearly a decade. Information on the supplier-audit policies of Michael Kors is scarce. 

Foolish final thoughts
The share prices of Coach and Michael Kors have moved in opposite directions over the past twelve months. Shares of Michael Kors rose 50% and shares of Coach fell 30%. Even though both are in the luxury-goods industry, Kors and Coach tell two different stories.

The former is headquartered in Hong Kong but receives nearly 80% of its revenue from America. Investors can only easily find one comprehensive annual report for this company. Mr. Kors founded the company over three decades ago. The massive surges in profitability and popularity of Michael Kors are undeniable. However, the company itself acknowledges: "We have expanded operations rapidly and have limited operating experience at our current size." Be careful about paying over 30 times earnings for this company.

Then we have Coach, a contrarian play. The market gave the company a licking over the past twelve months. Now we can purchase Coach for less than 13 times its trailing earnings. In doing so we would also receive a 3.2% dividend yield. Those dividends do not consume a high portion of the company's operating cash flow. Last year Coach generated $1.4 billion in operating cash flow and paid out $339.7 million in dividends. Ten out of the last eleven annual reports from Coach have announced operating cash flow growth. 

Financial results from Coach have consistently improved over the past decade. It has also put forth noticeable effort to present its stakeholders with information that is both meaningful and easy to digest. As an investor I appreciate Coach's foray into sustainability reporting. Such reports are a welcome supplement to traditional financial reports.   

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