Fossil (NASDAQ:FOSL) caught my attention with its 12% gain so far today. The stock price fell to a two-year low at the end of October, prompting some murmurs from a few fellow value investors, but I hadn't had a chance to take a good look at the company.
The company released its third-quarter earnings report this morning, and investors obviously liked what they read. Unfortunately, the fashion watchmaker's gains aren't as impressive as I'd hoped. Earnings actually fell 4.7% from last year. The apparent reason for the stock's jump today is that the earnings decline wasn't as bad as expected. Fossil earned $0.30 per diluted share in the quarter, and analysts were expecting only $0.28, versus last year's $0.31.
The good news for Fossil is that sales grew by 9% versus last year's performance. The overall sales gain was led by a 12.8% improvement in international sales, which offset the dismal 7% decline in watch sales stateside. Despite the sales gain, Fossil turned in lower operating income and net income because the company experienced higher advertising and payroll costs. The increased advertising costs are primarily due to the fact that a larger portion of the company's advertising occurred in the fourth quarter last year, whereas more advertising occurred in the third quarter this year. The other, more troubling cause of the operating margin decline is payroll expenses, which the company has stated are primarily attributable to expansion of its store base.
While the higher cost structure in Fossil's stores is a bit concerning, especially since the retail sector has been a bit soft since the summer, any sales gain is a net positive because increased sales help absorb and neutralize these underlying costs.
The good news at Fossil is that the company still has a healthy balance sheet that is flush with cash -- albeit the smallest amount in the last 12 quarters -- and no long-term debt. However, there is pseudo-debt in the form of the operating leases the company's stores are obligated under. And one shouldn't forget that the company's cash flow from operations has been falling and inventory levels this quarter ballooned by 25.5% over last year's third quarter.
After the stock's jump this morning, the company's P/E multiple is a shade above 15. That's too high, considering that the company issued disappointing forward earnings guidance and there is no sign of improvement in the company's U.S. business. I'm more inclined towards other retailers with sound balance sheets trading at reasonable multiples, such as Buckle (NYSE:BKE), BJ'sWholesale Club (NYSE:BJ), and TJX Companies (NYSE:TJX).
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Nathan Parmelee has no financial stake in any of the companies mentioned. The Motley Fool has an ironclad disclosure policy.
