SKX: Could It Really Be This Simple?

It's extremely rare that I come across a trend that is so blatantly simple and obvious that it slaps me in the face and makes me question why I did not see it sooner. I think I just found one.

I'm obsessed these days with the follow through implications of a rebound in the athletic footwear business. I've posted on it plenty (i.e. bullish on Foot Locker). But who loses? I think it is Skechers.

This story is not without its hair - everything from the historical linkages to LA Gear, to massive quarter to quarter sales and margin volatility, and the recent spotty track record in forecasting both fixed and discretionary SG&A costs. This stock is usually a short-term proposition for most, based on some 'perceived' edge on near term info flow. That's one of the reasons I've stayed away from it in the past.

But with operating margins currently hovering at around 9%, my view is that it is time not to wonder if they're going to be plus/minus 50bps in a year - but whether they can hold the line and resist being cut in half. I'm starting to think that the latter is increasingly likely. Some additional points to consider...
  • Perhaps the biggest factor is the F word -- fashion. I've been pretty vocal about the shift away from low-profile and non-performance shoes, but when I mapped out the historical relationship this evening with SKX sales I nearly fell out of my chair. It is spot-on. (SKX is all fashion - when's the last time you saw a Skechers add of someone competing in an athletic event?) The performance/fashion footwear ratio (number of performance/fashion pairs sold) has been favoring fashion for 4 years. Not only has it flattened out, but now it's going up. Is it any wonder that the sales peak coincides with industry trends hitting a multi-year inflection point? I don't think so.
  • Keep in mind as well that almost all Skechers' shoes are made in China. I'm not going to elaborate much more on this one. Simple punchline - not good given that inflation is rising faster than wages, growth is slowing, and capacity growth has gone from +4-5% 5-years ago to flat at best today. Prices are going up and margins are coming down.
  • While I could go down the list of the things that SKX talks about as it relates to margin and growth initiatives, I wonder if it even matters given the sheer headwinds SKX is about to face from both a fashion trend AND a macro cost standpoint. Before the rise of low-profile shoes, SKX's margins were 4-5% at a time when it had the benefit of meaningful input cost deflation. Now sales should roll while margins compress. Initially I was concerned that 6 days short interest was high-ish. Now I'm starting to wonder why it's so low.

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