FOSL - Fossil Group Inc

[orthopa]

Did a search and didn't find any on this company yet.

 

This popped on a screen I was doing yesterday. Stock price seems to be beaten down due to greater likely

hood that the smart watch become the time piece of choice over traditional watches, specifically the i-watch. Just started to look into this over the past two days. Everyone is probably familiar with the Fossil watch brand. They do have some handbag merchandise an extensive licence brand portfolio of popular fashion watches.

 

PROs

 

1. Hated right now, looks like market thinks regular wrist watches will be extinct going forward

 

2. Cheap compared to historical multiples, 14.89 PE times this years projected earnings, 13 times next. Not super cheap but market is near all time highs.

 

3. 30%+ ROE, ROIC

 

4. 18% of shares held by insiders

 

5. Historically stingy management, CEO takes no cash compensation.

 

6. Agreement with Google for Android based smart watch technology.

 

7. Wholesale business expanding internationally.

 

8. ~15% of shares bought back last 3 years.

 

CONs

 

1. No real moat or competitive advantage but does have longish term agreements with Michael Kors, Kate Spade, Armani, Marc Jacobs, DKNY, Burberry.

 

2. Large portion of  business is fashion watches and fashion can be very fickle.

 

3. Very at risk if smart watch technology becomes norm going forward.

 

As I mentioned need to do more work on this and think about this more. At its simplest level looks like a reasonable play if you think the smart watch fear is overblown. This would be my thinking. Although traditional watch usage is less apparent with millennials I have a hard time believing that a large enough percentage of the population would want to carry both a phone/and or a watch at all times, or be inconvenienced with having to charge a smart phone constantly.  Not to mention from a fashion standpoint the i watch to many is undesirable. With FOSL expanding business overseas I think the penetration of a sub $200 fashion watch would be much higher then a $350-$11k smart watch.

 

I have started a small tracking position and will do more work on this one. Please feel free to add/correct anything.

[KCLarkin]

Based on their historical performance, it is hard to believe they have no moat. There must be a hidden moat somewhere.

 

I tend to avoid retailers so I haven't looked at this in detail. It looks like analysts are expecting a 17% drop in earnings?

[berkshire101]

Isn't FOSL like the Luxottica but for watches?  They make watches for several well known brands out there.  I would imagine their expertise, design and vertical integration in watches would lead to some competitive advantage.

[constructive]

Isn't FOSL like the Luxottica but for watches?  They make watches for several well known brands out there.  I would imagine their expertise, design and vertical integration in watches would lead to some competitive advantage.

 

The eyeglass market is very concentrated and Luxottica has a dominant market share. Watches are much more fragmented and Fossil is the #4 player, after Swatch, Rolex and Richemont. Probably soon to be #5 with Apple entering the market.

 

http://www.statisticbrain.com/wrist-watch-industry-statistics/

[fisch777]

They are good operators, but I think the sub-premium watch space is pretty fashion-sensitive.  For a few years earlier this decade, FOSL was killing it with these white acrylic Michael Kors models for women, which they also "copied" into other brands they have licensed.  No idea if these are still selling.  I would argue there is little moat here - FOSL is really a fashion retailer more than a watch manufacturer. 

 

They do have a (limited) Swiss-made line since 2013. It looks like they get movements from STP, one of 3 mfgs of Swiss movements.  While the Swiss watch business has real barriers to entry, I question how much more consumers would be willing to pay for a Fossil brand watch with a Swiss movement.  It looks like they originally released some models priced $1000-1500, but now most models in the Swiss line are $500-700.  I probably just answered my own question.

 

 

[KCLarkin]

I would argue there is little moat here - FOSL is really a fashion retailer more than a watch manufacturer.

 

Possibly but they have grown EPS at 20% CAGR over 20 years and they have 34% ROE. It's hard to believe they have just been riding a fashion wave for 20 years.

[ItsAValueTrap]

I don't think luxury retailers have moats.  Look at how badly COH is doing under the new CEO.

 

I really, really like Fossil's CEO.  Very good at his job (high returns on equity, lots of growth) and he's honest- doesn't take any salary.

 

(*I am long.)

[constructive]

I would argue there is little moat here - FOSL is really a fashion retailer more than a watch manufacturer. 

 

You say that like fashion / retailing is bad and manufacturing is good in terms of moat. I think it is the opposite. Commodity manufacturers earn a return on their capital assets, which deteriorate over time. Branded manufacturers also earn a return on their intangible brand which grows stronger over time if they are executing effectively.

[constructive]

I don't think luxury retailers have moats.  Look at how badly COH is doing under the new CEO.

 

Look at dozens of other luxury retailers. In general the luxury retail sector earns above average ROEs. Coach over its lifetime has been an awesome business. Now they have reached the part of their lifecycle where they are huge and maybe going into decline.

[coc]

One note of context for some of you commenting on insider ownership. The company is run by Kotsa Karstosis, and used to be run by he and his brother Tom. Not long ago they together owned ~40% of the stock. Tom left and now runs (privately) Shinola watches. (Yes, that Shinola.) Tom no longer owns much stock and I believe Kotsa has sold some too, which brings it down under 20% now. So there is indeed a lot of management ownership, but it has also lessened over time and the story has changed a bit.

[KCLarkin]

I don't think luxury retailers have moats.

 

Coach clearly has a moat. It is still making 73% gross margins. Their current problems seem to be self-inflicted. They sacrificed their brand in pursuit of growth.

[bizaro86]

I don't think luxury retailers have moats.

 

Coach clearly has a moat. It is still making 73% gross margins. Their current problems seem to be self-inflicted. They sacrificed their brand in pursuit of growth.

 

Luxury brands can trade brand equity for sales any time they want by selling more goods at lower prices. (Discount lines, outlets, sale pricing, etc) This is what coach has done, imo.

[kab60]

Vulcan has a big position and wrote about Fossil in their latest investor letter. I like what I see (actually I hate their design). Diversified brands makes them less vulnerable to changing fasion fads. Big insider ownership, low exec comp and very big share purchases. Plus, their jewelry sales sales are growing nicely. The joker is iWatch but my gut feeling is that it is owerblown and they have the Google/Intel partnership if it takes off.

[orthopa]

Vulcan has a big position and wrote about Fossil in their latest investor letter. I like what I see (actually I hate their design). Diversified brands makes them less vulnerable to changing fasion fads. Big insider ownership, low exec comp and very big share purchases. Plus, their jewelry sales sales are growing nicely. The joker is iWatch but my gut feeling is that it is owerblown and they have the Google/Intel partnership if it takes off.

 

Im going to read their letter tonight, thanks.

[kab60]

Michael Kors announced FY2015 earnings and are down 20 percent on worse-than-expected outlook. Fossil Group was down 3-4 percent yesterday and is down another 6,5 atm on stronger USD and Kors' outlook.

[orthopa]

Michael Kors announced FY2015 earnings and are down 20 percent on worse-than-expected outlook. Fossil Group was down 3-4 percent yesterday and is down another 6,5 atm on stronger USD and Kors' outlook.

 

FOSL looks to only be getting cheaper. Need to look more at Kors but both trading at 11-12 forward multiples now. Both have good balance sheets.

[Guest notorious546]

quote from vulvan value partners letter.

 

"Fossil Group has a unique business franchise in that it produces timepieces, has a global distribution network, and owns and licenses watch brands. As a result, they are an attractive partner for watch brand owners. The strong dollar has obscured their underlying growth. In addition, concerns about the impact that the Apple Watch may have on their business has weighed on the stock price. Fossil has partnered with Google to produce several versions of Android smart watches. We think a market will exist for both traditional and smart watches. We think Fossil is uniquely positioned to prosper with both traditional watches and smart watches, regardless how the market evolves."

2015_Q1_Letter_-_Vulvan_Value_Partners.pdf

[mateo999]

Think about the economics to fosl from the kors relationship.  Kors clearly had the negotiating leverage going into last year's contract renewal. It was the only thing analysts kept asking about on the conference call at that time. And the CEO was evasive as could be. On top of that, ppl think that the apple watch is a different product than what fosl sells, and thus the two won't compete. i think that argument is wishful thinking.  I have a number of nicer automatic watches. If and when I get an apple watch, I'll have to think long and hard about how frequently the AW would be in rotation on my wrist. Once I'm used to checking emails on my wrist, there's no going back. It's going to be a real pain to want to check an email, but then realize.. Whoops..  I'm wearing my Tag today!  For me, if I ever started wearing an AW and found it useful, I'd probably look to sell my collection.

 

There's most certainly going to be an impact whether or not people are in denial about it.

 

 

[orthopa]

Think about the economics to fosl from the kors relationship.  Kors clearly had the negotiating leverage going into last year's contract renewal. It was the only thing analysts kept asking about on the conference call at that time. And the CEO was evasive as could be. On top of that, ppl think that the apple watch is a different product than what fosl sells, and thus the two won't compete. i think that argument is wishful thinking.  I have a number of nicer automatic watches. If and when I get an apple watch, I'll have to think long and hard about how frequently the AW would be in rotation on my wrist. Once I'm used to checking emails on my wrist, there's no going back. It's going to be a real pain to want to check an email, but then realize.. Whoops..  I'm wearing my Tag today!  For me, if I ever started wearing an AW and found it useful, I'd probably look to sell my collection.

 

There's most certainly going to be an impact whether or not people are in denial about it.

 

Is pulling your phone out of your pocket that much more difficult then reading off of your watch?  Also how do you reply  to an email on  your phone with a lengthy reply? Siri? If that works as well and as often as it does on the phone you will end up typing it out.

[InsecurityAnalysis]

From a purely aesthetic view traditional watches and the apple watch are very different, with each has their space. If a person is going to buy a traditional watch, I don't see them changing their mind to purchase an apple watch. Personally, traditional watches are the more versatile fashion piece across different social settings compared to the apple watch. I wouldn't wear an apple watch to an interview for example.

Just my two cents though.

[kab60]

No idea if AW will be a gamechanger but isn't Fossil already priced like that? I won't bet against Apple but I don't think you need to at these levels.

[mateo999]

I understand there are differences in aesthetics, and a smartwatch isn't for everyone.  My point is there are TONS of watch wearers, that likely have MULTIPLE watches.  But all it takes is ONE Apple Watch to keep this collector from ever buying another regular/fashion watch again.  This is because once a person has committed to the step change that is a smartwatch, a regular watch becomes largely irrelevant to that person.  It's a many to one conversion that will absolutely affect FOSL.  It's not a 1:1 relationship.

 

This dynamic is actually what's keeping me from buying an Apple Watch now.  I like to wear one of my few watches on a daily basis.  But I'm reluctant to buy the AW because I know once I do, it's going to be super awkward to simply introduce the AW as just another one in my collection to be worn occasionally.  I have this same issue (admittedly on a super frivolous level), when I go to use my chronograph to time something, but then realize i'm just wearing a non-chrono model.

[RichardGibbons]

I think this is a great point, Mateo, the crux of the issue.

[innerscorecard]

I actually wonder if FOSL may still be a good short. After all, the VIC short thesis from a while ago has so far played out exactly as expected.

[Guest notorious546]

I actually wonder if FOSL may still be a good short. After all, the VIC short thesis from a while ago has so far played out exactly as expected.

 

I've attached the short thesis for easy access. I think elements of it have definitely played out while concerns from other members on the forum are consistent to what has been laid out in the write up as well. The inability of management to clearly outline answers to the questions has stopped me from making an investment here. That said there's a purchase price for everything, but I'm afraid I don't see a compelling valuation at today's levels.

 

 

Question 1

Omar Saad - Evercore ISI Group - Analyst

Wanted to ask my one question on the 10-year license renewal with Michael Kors. Congratulations on that, as well.

It's obviously been a great relationship. Can you help us understand maybe some of the underlying dynamics,

especially since I think last quarter you had announced a renegotiation, a similar 10-year extension with Armani.

That one, I think, had lapsed and was running month to month for a while whereas this one I think was a little more

preemptive. Maybe help us understand the backdrop there. Are those situations really different or is it more of the

same?

 

Kosta Kartsotis - Fossil Group, Inc. - Chairman of the Board and CEO

Well, we were very pleased to sign the 10-year agreement. As you know, Michael Kors has been a fantastic

opportunity for us. Our two companies work very closely together. We've got very strong business in the US. It's

growing very rapidly in Europe. Asia's a huge potential. There's a follow-on jewelry opportunity that's very

significant. Men's is going to grow and will become very important, especially as we get larger in Asia. We're

building shop-in-shops all over the world; could be a significant number of them. There's a long-term opportunity in travel retail, and wearable technology will follow on in there also. We have very close relationship, it's very

significant business for us and them, and we felt it was prudent for us to go ahead and get a contract signed, put it

in there for 10 years. There's a significant amount of work and investment made by both parties for this. We felt it

was better to get a deal signed early and go unencumbered after opportunity and get back to business. That's why

we did it.

 

Question 2

Rick Patel - Stephens Inc. - Analyst

Good afternoon everyone. I will add my congratulations as well. Can you talk about the margin profile of your

license multi-brand portfolio? You renewed Armani earlier in the year, now you've locked in Kors. As we think about

the margins of this portfolio over the next three to five years, is it going to look similar as the last five years? Just

curious what's going to change if anything. Thank you.

 

Dennis Secor - Fossil Group, Inc. - CFO

If you look at the margin profile over the next several years, there's a lot of factors that you need to consider and

opportunities and some headwinds. You see that there's opportunities for us as we reduce cycle times,

international growth becomes a big opportunity for us, channel mix becomes a lot. So there's a lot of opportunities

in an overall portfolio of initiatives that we can use to drive margin, and the profile of the portfolio is one of those.

Each contract has different dynamics, and so you can see some mix changes among the brands. But overall we

think that there's opportunities longer term for us to drive margin expansion, and like I say, the components of the

individual contracts and brands are one element of that.

 

Question 3

John Kernan - Cowen and Company - Analyst

Just to circle back to Michael Kors, can you update us on, one, how the brand is performing in Europe, both from a

watch and jewelry perspective, how big you think that business can be relative to what it already is here in the US.

And then can you just confirm that the economics behind the Kors licensing agreement haven't materially

changed? Thank you.

 

Kosta Kartsotis - Fossil Group, Inc. - Chairman of the Board and CEO

In terms of Europe, the business is growing very quickly in Europe, both watches and jewelry, and it looks like it's

going to be a very significant business. And I would say the same thing about Asia, even though it's a relatively

small business now. And in terms of the economics of the deal, it fits very well into our business model and

where we focused on focusing on the business and growing it and putting major distribution around the world and

monetizing the opportunity, that's in front of us.

This is in stark contrast to previous statements they have made. In a conference call on June 11, 2014, they had no

problem saying that things are typically renewed at similar terms, in a direct response to a question about KORS.

Why not now?

 

Dennis Secor - Fossil, Inc. - CFO and Treasurer – 06/11/14

There is -- the process generally is -- most of the agreements are five-year agreements and we try to structure them

at all times so that they are win-win relationships for both parties. We view these as important partnerships and

relationships and we want those to continue. I think historically, generally they have renewed at similar terms.

I believe the writing is now on the wall. I expect a material decline in the earnings trajectory beginning in 2016, if not

before due to the KORS royalty reset. The rise in the stock on extending the deal is an opportunity to add to the

short at better prices, in my opinion.