Takeaway: If this Space is broken, KATE missed the memo. The 2Q scoreboard is severely lopsided – especially vs market carnage. KATE at $20 is a gift.
This Pseudo-Luxury Handbag space has become the poster child for a group that takes a piece of information, ignores any and all context, and then takes it all out on KATE spade – the only name that has yet to show any stress. Let’s keep this simple, and look at the scoreboard.
- Comp Store Sales: KATE wins at +10%, vs KORS at -10%, and COH at -19%. This is a 20% spread between KATE and the next closest, KORS. Interestingly, KATE’s e-commerce sales were flat, and yet total comps accelerated, suggesting that store comps went from +6 to +12%. Not too many retailers are printing such trends.
- Store Count: This one goes to KORS, with 24% store growth. This is grossly weighted to growth outside the US, which is where it belongs. KATE put up a big perceived slowdown – but that’s optical. Keep in mind that when Jack Spade/Saturday closed down store ops we saw 30 stores exit the fleet early this year. The adjusted store growth for KATE is about 15%.
- Revenue: COH put up its 8th consecutive quarter of revenue decline, and that’s including its Weitzman acquisition. KORS was fairly balanced at +7%, with KATE at a lowly 3%. But again, when you adjust the KATE numbers for store closures, 2Q growth was 18%. Winner = KATE.
- Margins: Finally, and most importantly, check out the margin trend. For the past seven quarters, both KORS and COH have put up a sequentially eroding trend in margins. Over the exact same time period, KATE marched in the exact opposite direction. All of that said, KATE’s TTM margin stands at 8.1% a shadow of KORS’ 27.7% and COH’s 18.8% (and a quarter of each of those brands’ peak).
Ok…have we established that KATE is charging forward while the ‘space’ is weakening?
That’s why we don’t understand the disconnect between KATE. From the date each company started its respective downward spiral we can measure the following…
- COH: Lost $7.5bn in market cap, or 46%. Since that time, revenue was revised down $1.3bn, or 20%. A 46% drop in the stock in exchange for a 20% revenue revision? Makes sense to us.
- KORS: Lost $12.2bn in cap, or 61% in value. Over that time, we saw a 6% downward revision to revenue, or about $200mm. While COH’s decline is completely justified, it seems excessive with KORS. It suggests to us that the stock was either way overbought in the first place, or perhaps the revenue bottom is yet to come. We think it’s the former.
- KATE: Here’s where the math/logic breaks down something fierce. Since KATE has traded down in sympathy with ‘The Space’, we’ve seen revenue revised HIGHER by 9%. Again, revenue trended ABOVE expectations despite the closure of Saturday and Jack. And the stock experienced the same downside from peak to trough as Coach (which saw a -$1.3bn revision to revenue)? We could understand – maybe – if KATE was sitting at a 30% margin. It’s not. We still think that we’re likely to see earnings double next year to $1.20, and by the end of next year people will be talking about $3 in EPS power. With the stock at $20 today, it’s as much of a gift as we can find in this market.
HERE ARE SOME COMMENTS FROM EACH OF THE COMPANIES ON SOME KEY AREAS
THE HANDBAG SPACE
-As it relates to the marketplace, the fact is that we are really not seeing any change in consumer behavior and there is certainly lots of noise around that. But in our view and the conversations that we continue to have with our retail partners, we are really seeing no change in consumer behavior. I think what we are seeing is some reshuffling of brand penetrations in the space that may be creating some noise but we are very confident in what is happening in the marketplace and I think our continued growth reflects that.
-If you take our retail sales in our own stores and our department stores, we had high single digit growth in North America.
-We believe that we are in fact growing market share in North America.
-We grew at a higher rate than we believe that the category did.
-We believe that the category in North America is growing in the low single-digit rate today, and we think that we are outpacing that growth by a fairly significant amount, again, showing the health of our brand.
-During the fourth quarter and specifically in the month of June, by our estimation, we did see a further moderation in category growth from the March quarter’s mid-single-digit rate.
-Growth was primarily impacted by a slowdown among some top players.
-The category had a slowdown from the previous quarter, mid-single to low single digits for the quarter.
-Overall for the year, we estimate that growth in the North American premium women’s market. Excluding moderate brands with an average handbag price point below $100, grew at a mid-single-digit rates, approaching $12 billion, as bags and accessories continue to represent a growing portion of her wardrobing spend.
-UK full price business continues to deliver strong comps and our e-commerce business is growing rapidly.
-As we continue to hone our European strategic growth plans, we expect continued expansion in France and will be launching a new wholesale business in Scandinavia and Benelux with new distribution partners later this fall and expect to have approximately 30 points of distribution by the fourth quarter.
-Japan department store penetration of PRC tourist in key cities accounted for 40% to 45% of total department store traffic while we are seeing single-digit penetration in our stores.
-Japan comps for the quarter were low single digits on a constant currency due in part to upward adjustments in our MSRPs in response to FX impacts, a partial shift in the promotional calendar from Q2 to Q3, and macroeconomic conditions.
-In Japan and Europe, our Kate Spade New York retail fleet sales productivity decreased 4% on a constant currency basis compared to second quarter last year for the same reasons that Craig referenced earlier regarding Japan and we expect this to improve by year end.
-In constant currency, we saw revenue growth of approximately 2% in North America, 42% in Europe, and 57% in Japan.
-We saw continued momentum in our international markets, with mid-single-digit comp growth in Europe and strong double-digit increase in Japan in constant currency.
-We are pleased with the strength in China and Southeast Asia, with double-digit comp growth in the first quarter
-The comps in Europe I think are going to be…on a constant currency basis, somewhere to the high single to mid-single digits.
-Coach brand total international sales up 3%
-In addition, our international businesses posted moderate growth on a constant currency basis, highlighted by a double-digit increase in Europe and strong growth in China,
-Sales growth in China was driven entirely by the mainland, as Hong Kong and Macau continued to experience traffic declines from a decrease in PRC tourists.
-Moving to China. Our fourth-quarter sales rose 5%, with strong growth on the mainland more than offsetting weak results in Hong Kong and Macau.
-For the fourth quarter, sales in Japan rose 2% in constant yen, as we anniversaried the tax increase in saw increased tourist flows from the mainland Chinese, while sales in dollars declined 15%
-Our total North America segment net sales grew 22% increase in Q2.
-In wholesale, our business was primarily driven by strong performance in handbags.
-Data showing a continuing increase in market share representing a key opportunity for growth as we build on our still modest penetration of market share.
-Growing share in a category that is still growing low-single-digits.
-On a constant currency basis, Coach brand revenues in North America down 19%
-We are projecting a low single-digit aggregate comp decline in North America
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Takeaway: We are adding Utilities Select Sector SPDR Fund (XLU) to Investing Ideas.
THE HEDGEYE EDGE
Sometimes the macro rotation and allocation playbook is relatively straightforward. As growth slows and "reflation" deflates, you want to be buying A) Long-term Bonds and B) stocks that look like bonds. Bond proxies and defensive yield consistently outperform alongside the dual deceleration in demand and prices and Utilities remains the canonical go-to sector for growth slowing, defensive yield exposure.
INTERMEDIATE TERM (TREND) (the next 3 months or more)
In the globally coordinated central-banking game of rotate-the-QE, ECB President Mario Draghi et al hold the policy ball currently with the next main event calendar catalyst being Jackson Hole on August 27-29th. Relative strength in the domestic economy and expectations for divergent monetary policy paths in the U.S. and EU have and should continue to support dollar strength in the nearer-term – with the stronger $USD, in turn, perpetuating the deflationary environment via declining import prices, declining business investment and ongoing declines in things priced in those dollars (namely commodities).
Away from Deflation’s Dominos, we also expect domestic growth to decelerate in 2H15 – a reality that should further extend the prevailing outperformance in low-beta, low-short interest style factors. In other words, being long “boring”, relative inelastic cash-flows with yield worked in July and should continue to work from here.
LONG-TERM (TAIL) (the next 3 years or less)
In a global Macroeconomy constrained by secular demographic headwinds, ongoing over-indebtedness, top-heavy income distributions and pervasive liquidity trap conditions, lower-and-slower-for-longer remains our baseline expectation for growth, inflation and the level and path of interest rates.
We don’t want to hold everything at every price but the reality of slower-for-longer is that re-rotation into Utilities, REITS and the like will be recurrent whenever the slope of (cyclical) growth turns negative and the quantitative setup is favorable.
ONE-YEAR TRAILING CHART
We will host a conference call on Friday, August 7th at 11am ET to discuss the latest Macau data, our outlook on the market and the stocks, and the implications of the recent earnings season. As always, we will entertain questions at the end of the presentation.
RELEVANT TICKERS INCLUDE:
LVS, WYNN, MGM, MPEL, 0027.HK, 1128.HK, 1928.HK, 2282.HK, 6883.HK, and 0880.HK.
- Q2 earnings implications
- Hedgeye company EBITDA estimates vs the Street for Q3, 2015, and 2016
- Revised 2015/2016 monthly market projections
- The promotional environment
- "True" Mass trends
- The increasing importance of non-gaming segments
Watch a replay of today's edition below.
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