Solid beat all around for Best Idea Long RH, amidst the worst sentiment we recall seeing on this name in a long time. It’s staggering to think that this stock was down to $530 just three days ago – and now after hours it's trading close to $650. Revenue was extremely healthy, as we expected, despite ‘horrible’ credit card data reads intra-quarter, which fueled bearishness around the name (note, the credit card data excludes Amex – which probably accounts for one third of RH transactions – and also omits transactions over $9k – hence is close to meaningless for RH). The top line grew 19% -- or 49% above 3Q19. There was an uptick in deferred revenue on the balance sheet as product remains stuck on the water, but underlying demand is extremely healthy for RH. Gross Margins surpassed 50% for the first time, with EBIT margins hitting an ATH of 27.1%. All in, both the quarter and the outlook was spot-on with what we outlined in our Black Book two weeks back where we quantified the TAIL growth opportunity based on detailed market analysis and per capita spending trends on high-end home furnishings in both the US and overseas. The punchline is that our math builds to $41 in EPS from the US operations alone – which compares to the consensus estimate (which includes Europe) of $34. Then we tack on another $17 per share in International earnings, and we can build to earnings pushing $55-$60 over a TAIL duration (we’re modeling ~$50 for CY25). If we’re right on the numbers, we think the name will be revalued like a Global high-margin luxury brand with ROIC in the top 5% of global retail, and one of the deepest and widest competitive moats in any consumer discretionary industry. When we stack up against peers with similar characteristics, we get to a stock between $2,000 and $2,500 over a TAIL duration. For our Black Book, click the link below. We pulled out some of the more salient slides to outline our thesis.
Replay Video Link: CLICK HERE
This isn't the old Restoration Hardware. It’s the new RH. 2 key strategic changes have accelerated the transformation of RH into a luxury brand with luxury margins. The first was rethinking the old model of a big retail store. Big store doesn’t mean a big boring box. Rather it’s a palace to showcase the brand, hold a greater portion of the assortment on display and provide hospitality to customers.
The second big change was the membership model. No longer would RH play the seasonal sale/promotion game. This smoothed demand, simplified aspects of the supply chain, helped margins and elevated the brand.
That takes us to assessing the RH market potential starting with North America. We first analyzed current RH market to estimate the revenue and respective square footage opportunity. We can isolate a 60 min driving time/distance and get detail on households by income level and furnishings spending to gauge the spending in a given market for the relevant consumer. Our assumptions include: 60min drive distance, categories RH currently sells in home goods, Households of $150k+, or basically the top quintile, 10% share of each resulting market.
The output for current gallery markets includes $4.9bn in revenue potential just for these markets. The company is at about $3.2bn today, so still a lot of growth just in upsizing stores and taking share in current markets.
Looking at the net square footage opportunity by market, at the rate RH has been tracking on store openings, there is at least 10 years of square footage growth ahead of it.
The recently opened Jacksonville store is an interesting case study. By our math the store is over twice the appropriate size. Maybe it’s too big, maybe RH got free space, or maybe it says something about the net share opportunity the company sees in certain markets. Either way this will be a good market to watch for context on the future growth potential of current markets. It could be greater than our math suggests.
We also have to layer on outlet revenue for all the returned/blemished product that needs to be cleared in outlets in market. If we assume 2% share from outlet contribution it’s another $875mm in revenue opportunity. Outlets arguably bring an incremental customer to the brand as well.
Between galleries and outlets, the current North American market represents over $37 in EPS power conservatively.
Next we took a look at some untapped North American markets. 17 new markets that make sense to have an RH store.
On our assumptions these stores represent another $550mm in revenue.
Totaling up these NA markets, we build to $6.3bn in revenue opportunity and $41 in EPS.
Now international. The company did a nice job in its 2018 presentation framing up the international opportunity in the luxury segment of the global market. The data points in the slide say it all.
We identified some top global luxury markets to analyze. This is far from a comprehensive list, but likely has many of the early cities RH plans to penetrate. With similar methodology to the US, we get to $2.6bn in revenue opportunity. This is just the 60min distance around these city center locations. But RH won't just be opening stores, it will be opening countries.
Looking at total spend in furnishings in the relevant countries, on our prior store assumptions our math suggests RH would be penetrating less than 1% of the market. It’s fair to think the opportunity could be at least twice our number.
Totaling up the store market opportunity on our conservative assumptions we get to $58 in EPS power on $8.8bn in revenue. Keep in mind, our analysis is assessing only in the market area around stores and only home furnishings spend. We are not accounting for restaurant and hospitality revenue opportunities. This is also in today’s dollars,on today’s share count, and uses a conservative global tax rate of 25%. So the revenue and earnings power could still be much greater.
For our financial model we are building to $53 in EPS by 2025.
What multiple does RH deserve upon execution of its international strategy? If we match it up with other global luxury and world class brands, we think its margin and its return profile can command a 40x PE multiple. That means a stock of $2000 plus over a Tail duration.
