THE HEDGEYE EDGE
Canada Goose’s (GOOS) business model is going through a transition unlike any other we have seen – not just from a single seasonal product to lifestyle brand, but from consumer durable to non-durable. That transition comes at higher costs and greater risk of a margin collapse. There is a severe disconnect between the ultimate earnings power of this company and its current Enterprise Value – to the tune of 50%.
INTERMEDIATE TERM (TREND)
From a modeling perspective, I have the P&L giving up 250bp per year in Gross Margin, which pegs it at about 55% over a TAIL duration. To be clear, that’s spot-on with Nike, which is perhaps the best and most defendable Gross Margin in all of softline retail. But where I’m likely to be wrong is that the company won’t give up 250bp per year… but rather 1,000bp in a single year as it needs to clear product in an unsuspecting softening of the sector for which it unknowingly manufactured surplus inventory. The challenge will be in nailing the timing. Same store sales in its owned stores were likely negative in the last quarter and the 50%+ inventory growth points to a worrisome drop in demand.
LONG TERM (TAIL)
All in, over a TAIL duration, this is likely a company with ~$1.5bn in sales, a 55% gross margin, and a low 30% SG&A ratio. That’s about $2.00 in earnings power 3-years out with ROIC roughly cut in half to 18%. The P&L and balance sheet characteristics of that business will probably peg a multiple something closer to RL/COLM/DECK -- high-ish end, seasonal and transitioning from hot trend to staple (at best). There’s your 18x P/E, or 12x EBITDA multiple – in another three-four years. Discount that back to today’s dollars, and you’re looking at an $18-$22 stock – about half of its current $40 price tag.
Becoming a lifestyle brand will pressure margins: GOOS is being valued like the second coming of Moncler – a luxury lifestyle brand. Correction – it’s trading at a 25% premium to Moncler on virtually every metric. But this is NOT a luxury lifestyle brand – it is, for the most part, a single-product Canadian company that I think will fail to maintain profitability as it attempts to extend its product lines into anything other than the ‘jacket with a patch’ that gained such massive popularity over the past three years. Moncler is an authentic Italian-based luxury brand that tightly controls distribution and inventory, and protects brand allure and price points across its multiple product lines. GOOS wants to be that...but it ain't.
Transitioning from consumer durable to non-durable will require investments: I’m sure the management team are great guys, but they severely lack the experience to manage the transition of a full price single product company through a downcycle (or even a cycle moderation) where a discounting mechanism needs to be part of the equation. GOOS’ demand planning and forecast accuracy is average at best, as evidenced by the 60%+ build in inventories in the latest quarter. Apparel is a completely different ballgame from accessories – one that is much more fickle and subject to borderline-violent swings in consumer preferences. GOOS’ core product is a winter coat, it’s a high-quality product, but it has a multi-year replacement cycle. Unlike Lululemon a customer isn’t shopping every six weeks, or buying a new Gucci or Kate handbag every season. By the time a Canada Goose shopper needs a new coat, the competitive landscape will have evolved materially, and the brand’s customer acquisition cost will be significantly higher.
The market overestimates its store opening potential: As for real estate, this company can continue to add stores – which is a cornerstone of the bull case. But just because it can, doesn’t mean it should. With few exceptions, we’re seeing store openings right next to wholesale distribution selling the same product, and in centers where co-tenants include concepts like Gap. Not exactly Luxury from where I sit.