Our short position in RL is predicated upon on the fact, and it is a fact, that the company is relying on AUR (average unit retail – or mix/price) to drive its top line at the exact time the consumer is getting more cautious towards higher prices (we’re seeing this trend emerge across nearly every segment of retail). The chart below speaks volumes. In the quarter reported today, we saw 10% AUR growth, but only 7% constant currency revenue growth. Ditto for the preceding quarter, where more than 100% of revenue growth came from AUR. The company talked about drawing 1.6mm new consumers to the brand this quarter, up from 1.3mm last quarter. But this is a gross number. If the net consumer count was growing, we’d see total revenue growing faster than AUR, and that’s simply not the case. Hats off to to RL for executing well in Europe and in Asia, but we think North America will turn out to be a problem for the brand as the consumer pushes back on price, and it loses existing customers at the expense of new ones. Management claims that the younger consumer is less price sensitive, which may be true, but its obfuscating that its losing the legacy customer at an alarming rate. There were dozens of puts and takes on this print, but this trend coalesces our main point of concern with the brand. It’s trying to replicate Coach’s strategy of lowering its customer demographic by 20-years – but the problem is that it alienates the cash cow, repeat older customer – who is clearly shopping elsewhere. As the consumer pushes back on price, revenue growth evaporates, and margins deleverage materially. We don’t think RL management has a -2% GDP number embedded in guidance, and certainly not meaningful a step up in discounting and price reversion in consumer goods (especially in apparel) across retail. There remains a severe inventory problem in this industry, and while there’s a tasty narrative that inventories were cleaned up around holiday, the reality is that we won’t see ‘clean’ inventories for another 3-4 quarters at best due to the cadence of retail ordering patterns. It doesn’t help that RL is sitting on 33% inventory on top of 0.9% reported sales growth. We’re coming in slightly below the consensus/guide for the upcoming quarter because we think either AUR will crack, or net customer migration will increase (churn). But over a TAIL duration we’re maxing out at $10 in EPS power with the Street pushing $14. The stock is admittedly fairly valued on the Street’s numbers, so we have to be right on our revenue decline/deleverage thesis for this to work on the short side with the stock at $118. But we think the pricing and net customer migration trends will bite this P&L over the next 3-6 months, and we think it takes the stock well below $100. Great hedge against CPRI after its sell-off and earnings rebase this week.
