JNY: Retail Cycle 101

This name is textbook ‘things are less bad.’ But is the investment base in place to make it last?

Why is JNY up 15% today? For starters, JNY beat (lowered expectations) and it is the first time in more quarters than I can count where results did not result in a downward revision. That’s enough for a pop in this tape. But any other positive nuggets I can throw out regarding the quarter can best be summed up in the chart below. For everyone that has seen me put up these convoluted charts with squiggly lines, here a textbook example as to why they matter.

The Y axis represents sales growth less inventory growth. The X axis is the yy change in margin. Upper right (sales outstripping inventories and margins headed up) = good. Lower left (inventories too high, sales slow, and margins down) = bad.

Best in class retailers and brands can stay in that upper right quadrant for years. JNY, on the other hand, has not been there for 2 consecutive quarters since the Clinton administration. No joke. I like the fact that Wes Card (CEO) has taken up spending levels to make up for the sins of his predecessor. Perhaps that buoys brand momentum to a slight degree. But I still think that we need at least $100mm in added brand investment to help JNY regain relevance, and give the company any sense of stability. Unfortunately that $100mm equals about 300bp in margin, and JNY is running at about 5% today. That’s bad where I come from. Stuck between a boulder and a hard place.

Does this matter near-term? Probably not. One of JNY’s problems has been its retail business, where margins have gone from 10% to -5% over 7 years. This quarter went from -2 to +3% margin on a yy basis. This was simply due to controlling inventory and being less promotional. Is this sustainable? I’m not convinced it is. But with inventories being cleaner (which they are), JNY probably has a couple quarters to keep the retail margin expansion going.

If such is the case, and JNY flows this success through to the margin level instead of reinvesting in the emaciated brands, then this name could take a big turn for the worse as we head into ’09.
There's no better tool I can find than this chart for seeing management's effectiveness in triangulating the balance sheet with the P&L in different parts of the cycle. Let me know if you need more deets.

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