Coach (NYSE:COH) is a buy
(U.S. Equities) In this stock report I will make a brief bull case for Coach (NYSE:COH), taking into consideration the current stock price and short momentum trend, a DCF framework for valuation and a discussion regarding the current business strategy (at both national and international) levels that the leather goods company is taking. I'll emphasize bottom-up data and will tend to take a one year investment horizon. While I consider that there is a bear case to any stock we analyze on the market, I will only point the upsides.
Coach is an American mid cap (last market capitalization at $14.07 Billion) fashion leather goods company founded in 1941 in New York as a family-owned business, with six leatherworkers who started manufactuing leather wallets and billfolds by hand. The company experienced both consistent growth and shift of image in the past years, focusing on creating a brand known for fashionable ladies' handbags as well as items such as luggage, briefcases, wallets and other accesories. With 730 (July, 2011) stores, the company has become a prominent global fashion designer, manufacturer and marketer of top accesories for both women and men, with handbags representing the best known product. Coach sells its products in 3 ways: by direct retail, through big department stores and by its online shop and online retailers. Coach targets middle and high income consumers and besides the U.S. market has emphasized expansion in Canada, China, Japan, Taiwan and Singapore in the past 4 years.
At $50.10 (Mar 5, 7:52PM EST) per share, the stock is trading still at the bottom side of its 52 weeks average: 45.87 - 79.70. Needless to say, stocks have gradually increased (approx. $3.00) in the past three days, which shows that Coach is absorbing well the macro effects of a good overall momentum (I am mainly refering to the combination of the market indifference to sequestration, the turnaround of Italian bonds and stocks, the strong Chinese commitment to pursue 7.5% of economic growth, Australia's performance and Abenomics; which ultimately resulted in the top level of DJ and signal a good global market momentum).
Just in 02/22/13 Coach was trading at $46.79, which was the bottom of its 52-week price range. At this point you might wonder why the stock was and is still trading at near to bottom levels. This trend started when Coach missed the Q2 street earning estimated consensus of $1.28 a share. Coach announced a $1.23 earnings per share figure, putting the stock into a four week tumble. The day of the announcement, shares fell by more than 15%. However, what I consider crucial here is to notice that the stock price has gradually been on the way up since Coach missed the street consensus, which is a clear indicator that the market overreacted that time and that we are seeing a back-to-valuation to trend in investors and traders fond of the stock. Naturally, even at $51 per share, the stock is still far way from it's 52 weeks average, which make us automatically put it on our watch-list.
The company enjoys an extremely clean balance sheet. We can say from the forms that Coach has a near-to-zero long-term debt level. The debt-to-equity ratio is 0.01. Thus, Coach is both free from leverage risk and at the same time has plenty of free space to start increasing debt in order to expand and develop future business strategies.
The company is currently under a gradual management transition that should put current CEO Lew Frankfort in an executive chariman role by late 2013 or early 2014. In his place, the current president of the international arm, Victor Luis, is to become CEO by January 2014. This suggests that the company is planning to take more importance to global expansion, without losing the eye on the national market: future CEO Victor Luis has a strong record of achievements in Asia and is the main architect of the brand positioning and top marketing campaign that ocurred in China in the past yers. In some years, Coach should have developed further brand loyalty in Asian markets and have entered succesfully new emerging markets. We could say that due to the history of Coach and the beauty and simplicity of the concept, that the business enjoys easy scalability without losing its high-end position. Because of these two reasons, it is highly possible to replicate the success seen in China in other parts of the globe. Since 2010, the number of Coach locations has increaed by 134%. But what is most amazing in Coach China is the net increase in sales:
|Fiscal Year Ended June 30, 2012||Fiscal Year Ended July 2, 2011||Fiscal Year Ended July 3, 2010|
|Coach China Locations||96||66||41|
|Net Increase versus prior year||30||25||13|
|Coach China Square Footage||201,726||127,550||78,887|
|Net Increase versus prior year||58.2%||61.7%||49.8%|
|Average Square Footage||2,101||1,933||1,924|
Global success has just begun. As I stated, Coach is scalable and we will soon be hearing more Coach China like stories. To date, the revenue base that China and other developing markets generate for Coach is still relatively small, but it is growing. Coach is also expanding in Europe, where it can leverage the Japanese experience.
Absolutely everybody who is following the stock seriously will point out that Coach has impressive profit margins. Compared to its peers, it may have lower price points. However, it has by far higher operating margins than any other European luxury company. The story does not end there. All the fundamental metrics of Coach not only are at healthy levels: they have a healthy strong and consistent history. Even during the recession, Coach enjoyed for three year operating margins above 30% and ROC of 40%. The current extraordinary profit margin of 72% and the past record indicates that Coach has a competitive advantage against its main industry competitors and that it can perform well even at the hardest macro conditions.
|COH (current)||COH 5 years average||Industry average|
|Price / Earnings||13.6||16.5||25.1|
|Price / Book||6.6||7.4||4.8|
|Price / Sales||2.9||3.4||2.1|
|Price / Cash Flow||11.8||15.0||16.5|
|Dividend Yield %||2.3||-||1.2|
|Price / Fair Value||0.8||-||-|
I finalize this section by point out the strong ROE of Coach, well over 50% in 2012, and with a clear uptrend in the past 10 years:
At this price, I believe that Coach his highly undervalued. Momentum shows that the share price will eventually reach the 52 weeks average in the next 2 months and that the street overreacted to the missing of the earnings consensus. Due to the consistent history of profitability, the good management as it is reflected in the strong ROE, and the future growth prospects, I consider Coach is a buy. From a valuation point of view, the stock fair price is at least $60. For all the reasons expressed above, I am optimistic about the firm and believe that they will know how to take advantage of the good times to come.