Luxury retail is reliant on consumers' desire to buy expensive things. In good times, that's not a problem; in hard times, it can be difficult. It looks like consumers may be starting to pull back on spending, which would generally be bad news for a luxury brand like Ralph Lauren (RL -0.27%). But this iconic fashion company has some important tricks up its sleeve.
This trend is a negative sign
When Walmart reported third-quarter earnings, it noted that it was seeing increased traffic at its stores. So, too, are Ross Stores, TJX Companies, and Burlington Stores (BURL 3.17%). Basically, consumers appear to be looking for ways to spend less while still managing to buy stuff. On that score, there was an interesting commentary from Burlington, which noted that it was seeing success from bringing in name-brand goods that sell at higher price points.
Image source: Getty Images.
The takeaway from Burlington's success with more expensive items is that even higher-end customers appear to be trading down. And that's a potential canary in the coal mine for high-end retailers like Ralph Lauren.
But Ralph Lauren is already on top of the trend, noting in its fiscal second-quarter 2024 earnings conference call that it's seeing increased strength in its outlet business. Basically, if there are more value-conscious customers, the company is happy to accommodate them.
It also helps that most of Ralph Lauren's products are basics. When consumers are cautious, it's likely easier to sell a shirt that can be worn throughout the year (and for multiple years) than a fashion piece that could be out of style in a few months. And if a seasonal basic doesn't sell, Ralph Lauren can pack it away and bring it out again.
Ralph Lauren's secret strength is hidden in plain sight
The truth is, Ralph Lauren can afford to take the retail sector's ups and downs in stride. Part of that is related to its store base, which spans from outlets to boutiques, and its product assortment, which is heavy on basics. But there's another important factor: Ralph Lauren has a rock-solid balance sheet.
RL Total Long Term Debt (Quarterly) data by YCharts.
To be fair, the company's balance sheet isn't pristine. A quick look will show that the retailer is carrying around $1.1 billion in long-term debt. That's not a tiny number, and there are interest expenses associated with that leverage.
But that debt is offset by roughly $1.4 billion in cash and short-term investments. In other words, Ralph Lauren has zero net debt. That's a powerful position to be in for any company, but particularly important for a retailer, given the cyclical nature of the industry. Simply put, when the economy is strong, people buy more; when it's weak, they buy less.
While the wealthy customers who frequent luxury stores tend to be more resilient to these swings, they aren't immune. And, as Burlington pointed out, it appears that there's some trading down going on already.
Given Ralph Lauren's financial strength, though, it can handle a little pain during weak periods. It can afford to switch gears and lean more into outlets. It can store basics in inventory and bring it back out again at a later date, despite the costs associated with that decision.
There's no need to resort to deep discounts or closeouts just to keep the lights on. Having more cash than debt means the lights are going to stay on through even the most difficult periods.
Ralph Lauren has a differentiated business
Ralph Lauren's stock is up nearly 20% so far this year. While the price-to-sales ratio and price-to-earnings ratio are both below their five-year averages, it would probably be a bit too far to say the stock was shockingly cheap.
But the company most certainly has the resilience to weather an industry downturn, and that should put it on your watch list if you're looking at the fashion sector. If the traffic trend at off-price retailers is an early warning sign, you might have a chance to buy Ralph Lauren at an even more attractive price because of Wall Street's penchant for throwing the baby out with the bathwater.
