Excuse my while I clean the egg off my face on this CPRI print. This is a Best Idea Long, and has been since $27. So while it has been a win for us, today – which is the day that matters – I’m losing big time. And I hate losing more than I like winning. Was I mildly concerned that the stock went into this print on/near its highs with only 3% of the float short while we’re sitting smack dab in the middle of Quad 4 when 90% of my positions are shorts? Yes. I figured the company would guide down, as it always does. But to be 100% clear and #accountable, I was expecting a beat this quarter, and got shellacked with the opposite. EPS came in at $1.84 vs the Street at $2.22, and our estimate of $2.45. Nearly the entire miss came from US wholesale at the Kors brand. DTC otherwise looked healthy. China was also weaker than expected, with more stores closed than during the pandemic – I can live with that. The shocker to me is that we track promotional cadence religiously at most brands, and there were no warning signs of wholesale weakness. Though the company’s DTC business looked solid, management’s commentary about the weakness around holiday is contrary to nearly every data point that we (and the market) track. Scanner data was also very consistent over the period. It wasn’t good, but showed no material rate of change weakness. And let’s be extra clear – this company almost NEVER misses. It guides to a number it thinks it can blow away. So it’s safe to say that the results came in even further below plan than the consensus expected. Hence, the stock down 20-25% on the event, few were positioned for this headline. The shock-value here is the painful reality.
In doing the post-mortem, the part of the equation I got wrong was underestimating the exposure to US wholesale. My working assumption was that during the pandemic, the company had taken this down to about 20% of total for the Kors brand (from 40-50% pre pandemic). But the real number is about 35%. By year end, it should be 27%, as implied by the guide, and next year closer to 23%. That’s a level we can stomach. Did the company ‘stuff the channel'? Good question. We think the answer is no, at least not intentionally. But it filled department store orders when it should have simply said “No”. And then with department stores cutting way too many employees from the store base, there’s no one there to appropriately sell the higher-priced product. Performance improved in wholesale doors when CPRI put its own employees in the store to drive sell-through. I expect to see more of that across the board, which is an added cost pressure to drive the top line.
That brings us to guidance. Top line in the quarter was down by 6%, with guidance for the upcoming 4Q to be down 15%, which I think is too conservative by at least 500bps. Also guided EPS for the quarter to come in at $0.90-$0.95, which suggests annual earnings of $6.10-$6.15. When all is said and done, I think the company will earn better than $6.50 for the year, setting up for $7.50 or better in FY24. That’s probably a buck better than where the consensus will shake out. It also pegs the stock today at 6.5x earnings, which I think is extremely defendable.
The unfortunate part of this (or fortunate, depending on which side you’re on) is that this gives the John Idol hater’s club a LOT of ammunition. The company just hired a new head of the Michael Kors brand, so Idol no longer holds that CEO role. But he’s still CEO of the parent, and for the most part, investors hate him with a passion. Over the past 3-years, he’s executed flawlessly across brands. The hate had zero fundamental correlation to the company’s results. But now the haters will say “I told you so…you can’t trust this guy.”. Maybe they’re right. I’m not a part of that club, as I think he’s been an exceptional steward of capital over the past 3-4 years – and that is by far the primary factor I use to judge a CEO. But we’re a simple press release away from announcing that he’s stepping away and a new CEO will run this business. That’s probably good for a 20% move in the stock. Would I like to see that happen? No. Again, he’s a good steward of capital. I like him in the CEO role. I don’t care what he thinks about my opinion of him. That’s just what I think.
As for the stock, I think this sell-off should be bought. There’s no emotion in that statement – it comes down to math. The TAIL EPS power here is $10, as Versace and Jimmy Choo continue to ramp, and within 3-years turn into ~50% of the EBITDA of the total company. At 5x TAIL earnings for a portfolio that contains to luxury assets that are on par with LVMH and Kering, there’s no way a 5x multiple holds. Note that the company bought back $300mm in stock this Q with an average price a bit below $53, while the stock hasn’t been below that since around mid Nov. I’m (in)famous for saying that in retail, “the first guide down is never the last”. But in this instance, I don’t think that applies. Earnings were just rebased, the company set up for a sizable beat, and wholesale distribution was just permanently rightsized to a number approaching 20% as a percent of total. We’ll give this name room to breathe – but at $50 we think if you’ve got duration, it’s a slam dunk. I think this is a $150 stock over 3-years. Three baggers are tough to find in this tape, especially one where earnings risk was just taken off the table.
-- McGough
