Unlike fast-rising peers Michael Kors (KORS 1.73%) and Fifth & Pacific (FNP +0.00%), iconic handbag designer Coach's (COH 2.08%) stock price has been sitting near a 52-week low, hurt by weak results in its large North American business. The company's latest financial update in mid-January was more of the same, as Coach came up short of Wall Street's profit expectations, causing its third straight earnings-related sell-off. However, with an iconic brand name and a broadening product portfolio, is the company a good bet at current prices?
What's the value?
Coach has built a global luxury goods empire off the popularity of its trademark handbags, which has allowed it to move into related product areas, like eyewear, jewelry, and fragrances, primarily through partnerships with global category leaders. The seemingly universal desire to own expensive accessories has provided Coach with the opportunity to build a wide geographic footprint, with current operations in 30 countries, including a growing presence in the Asia-Pacific region. At the same time, Coach has limited the sales channels in each geography to company-owned stores and preferred retail partners, a strategy that has allowed it to maintain high product prices and a healthy merchandise margin.
In fiscal year 2014, Coach's financial performance has been subpar, with a top-line decline of 3.6% that was primarily a function of lower sales volumes in its large North American segment, a key geography that accounts for more than two-thirds of its overall sales. More notably, the company's sales total was generated through a greater use of promotions, which led to a decline in its merchandise margin. On the upside, though, Coach's premium price strategy allows it to generate healthy cash flow even in promotional environments, providing a steady stream of capital to invest in its retail store base, which currently tops 1,000 worldwide locations.
Trying to play catch-up
Looking ahead, a higher valuation for Coach is undoubtedly tied to a reversal of the negative sales trend in its North American segment, an area where comparable-store sales declined by a double-digit percentage in its latest fiscal quarter. Unfortunately, that might be easier said than done, given the strong momentum of its major competitors.
Michael Kors, for one, has moved from upstart challenger to accessories segment growth leader over the past few years, with a wildly popular brand and a widening assortment of products, including strong positions in watches and footwear. Unlike Coach, Michael Kors has embraced the wholesale channel, funneling profits from the lower-margin area into brand marketing initiatives and a worldwide retail footprint of its own.
In FY 2014, Michael Kors has left Coach in the rearview mirror, generating a scorching 50.8% top-line increase, due to broad-based strength across its geographies and product lines. More important, the company's key North American segment didn't exhibit any of the weakness plaguing Coach, as it reported higher traffic and a 23.1% gain in comparable-store sales during the period. The net result for Michael Kors was a sharp rise in operating cash flow, fueling further growth in its retail locations, as well as the construction of more shop-within-a-shop boutiques at its wholesale partners.
Likewise, Fifth & Pacific has been riding a solid sales trajectory for its Kate Spade unit, with an estimated 30% pickup in comparable-store sales for the fiscal year ended December 2013. Like Michael Kors, Kate Spade's growth has benefited from a broadening product portfolio, primarily engineered through licensing partnerships, as well as a global expansion of its store base, including an entry into new markets like France and Mexico. More significantly, Fifth & Pacific's recent sale of its other major business units, Juicy Couture and Lucky Brand, means that management will turn its full attention to maximizing Kate Spade's growth opportunities, making it a growing threat to Coach's accessories franchise.
The bottom line
Coach is relatively inexpensive, trading at a lower price-to-sales multiple than either of its two named competitors. It also has a healthy cash pile, although management's investment of roughly $400 million in a real estate venture will reduce its cash balance significantly, while also raising questions about management's focus on its core retail business. Nevertheless, until the company is able to return its North American business to a positive sales trajectory, investors should keep this handbag designer on the shelf.
