value and opportunity

In this post I identified Michael Kors as a “Tier 2” luxury stock with a really high valuation which might be an interesting stock to short based on my underlying thesis.

So justa few days later, Michael Kors reported a blow out performance, among oters:

Sales including licensing revenue rose 71 percent to $414.9 million in the first quarter ended June 30, driven by comparable-store sales and shops within department stores, the company said.

Retail net sales rose 76 percent to $215 million in the quarter, driven by a 37 percent increase in sales at stores open for at least a year, or comparable-store sales. The company opened 76 stores from the same period last year and operated 253 retail stores as of June 30.
First-quarter net income more than doubled to $68.6 million, or 34 cents a share, from $24.1 million, or 13 cents a year earlier.

First-quarter net income more than doubled to $68.6 million, or 34 cents a share, from $24.1 million, or 13 cents a year earlier.

So a doubling net income, 76% sales growth and a 37% yoy same store sales growth is really amazing if we look at how other upscale retailers do.

Interestingly enough, Michael Kors is not yet present in Asia, despite having the shares listed in Hongkong.

So the question is clear: Why is Michael Kors so successful (at the moment) ?

I guess one of the reasons is hs involvement in the US “Project Runway” designer casting show as a judge. However, the 10th series seems not to be too successful right now with viewers down 25%.

Kors’ Fashion is often described as the “Jet Set style”, whatever that means. His bio is not without bumps, for instance he went bankrupt in 1993 according to this article.

Michael Kor watches and jewelry are actually made by Fossil, which seems to have its own problems.

But still, why are they so successful ? I browsed around a little bit and among others I found statements

here:

What is the deal with the Michael Kors watch phenomenon? Everywhere I look there’s another small wrist encircled by an oversized gold Kors disc. Beauty PRs and fashion assistants absolutely love them, as do twenty-something city girls. “Girls that work in the city who want a Rolex. They might not know who Michael Kors is but they know they like shiny things,” tweeted @WhistlesPR in reply to my ‘who’s buying all the Kors watches’ tweet. “It’s chunky and looks expensive but it’s waaay cheaper than my dream Rolex! It has that magpie effect on everyone who clocks it,” confirmed @saraheangus.

With prices for Kors watches hovering around the £250 mark, they’re an easy entry-level accessory to buy into if you’re not in a position to spend £600+ on the bag or shoes. Clearly, plenty of people aren’t; according to the New York Times, sales of Kors watches went up 142% in the first quarter of this year. And good news for Mr Kors, his customers don’t just settle for one.

If one googles around, it seem to be really the relatively cheap watches which are extremely popular at the moment.

Balance sheet

Looking in the 2011/2012 annual report one can see that comparable sales growth per store have been 39% last year and even 48% the year before.

A quick check of the annual report showed nothing unusual in the accounts. Free cashflow generated is positive but relatively low due to large investments and the high growth rate. That’s normal. Also, goodwill is low and almost no financial debt.

Operating lease liabilities are around~ 560 mn and increasing due to the new stores.

Summary:

I am not sure why Michael Kors is so successful at the moment. This might be just a consumer fad which according to Jim Chanos might be a good short opportunity. On the other hand, the accounts look OK and currently in a “new normal” world, people pay up for growth.

So for the time being I will sit on the sideline and watch.

After unseccusfully trying Hongkong and Singapore, ManU Ipoed today on the US stock exchange. The IPO price was significantly below the initial range:

The IPO priced at $14, below the $16-20 range the club’s bankers had been seeking. It valued the 19-times English champions at only $2.3 billion and shaved as much as $100 million off the proceeds expected for the team and its owners.

Of course, the public shares have almost no voring rights and dividends should not be expected.

For anyone interested in stocks and football, the F-1 listing prospectus is really fun reading and should not be missed.

Valuation is relatively difficult to determine, but somewhere in the 20-25 EV/EBITDA range based on 2011 figures. Naturally, Manu has been pumped full with high yielding debt from its P/E owners and has additional “goodies” such as 140 mn USD “purchase obligations” etc.

Interestingly they file under the “Emerging Growth” company rule, which allows corporate governance similar to my beloved Italian highway operators….

A quick look at other listed Football clubs:

By the way, Porto could be bought for only 5 mn EUR…..

Yes, ManU is a great Football club, but they cannot and will not defy gravity. So prime short candidate if borrowing is available. It is not yet oin the Interactive Broker US short list, but as soon as it is there, I wil establish a position.

So shorting luxury stocks is not easy. I mentioned Bronte’s Richemont short in the previous post. Howver, Richemont issued very strong numbers with no slow down detectable. The same seems to be true for Prada:

Italian fashion house Prada SpA (1913.HK), which competes with Louis Vuitton (LVMH.PA) and PPR’s (PRTP.PA) Gucci, posted a 36.5 percent jump in first-half revenue, buoyed by strong growth in Asia, with sales driven mainly by its Prada and Miu Miu brands.

Revenue for the six months ended in July rose to 1.55 billion euros ($1.9 billion), the Milan-based maker of luxury bags and clothing said on Monday.

John Hempton reacted pretty quickly but seems to be confused.

One alternative explanation of Richemonts numbers comes from the WSJ:

“China’s outbound tourism industry has boomed in recent years, helped in part by the allure of luxury goods overseas.”

So with a relatively cheap Euro, Chines Mainlanders might not fly to Hongkong but straight to Europe to shop for their Richemont Watches and Hermes bags. Just on the week end I was astonished by the long queue of Asians on the Munich Airport waiting for their sales tax refund.

My current thesis for shorting luxury stocks is the following:

– the ultimate top level luxury brands like Hermes etc. will suffer less from a slow down as the very rich will keep on spending, no matter what
– tier 2 brands, those who get bought by the upper middle class will suffer more as those guys will have to cut back quicker and harder in a crisis
– companies who expanded their own sales network rapidly in the last few a lot will get hit harder than companies which don’t run own outlets.

So the focus should be on “tier 2” luxury brands with a lot of retail exposure (operating leases) and weak balance sheets. Preferrably, store growth should have slowed done already, or maby some store closings should have already happened.

So lets look at a list of luxury/high end retailers. For fun I included Nike, Adidas and Piquadro as well to look how they compare:

The Tier 1 /Tier 2 classification is a totally subjective classification from my side.

So to add some “meat” to this, lets look at some “raw” valuation metrics:

One can see clearly that in the “Tier 1” category, Prada and Hermes stand out in terms of valuation, but also they are outstanding premium brands.

In “Tier 2”, especially the new IPOs, TUMI, Michael Kors and Brunello look expensive, especially I highly doubt that those brands are even close to the long term value of a Hermes or Prada brand.

Some additional infos in the next table:

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.tableizer-table th {background-color: #104E8B; color: #FFF; font-weight: bold;}

I tried to gather some data regarding debt and leases. Although I have not filled all the blanks, it looks like TUMI has quite a lot of debt, whereas Michael Kors has some serious lease obligations.

So those two might be interesting short candidates. Although for Tumi, Short interest is already ~37% of float…

To be continued….