COH - Coach

[boilermaker75]

I have looked at COH before, but I have never bought any. I am taking another look.

 

COH closed on Friday at $50.27 with a market cap of $14.11 B, an enterprise value of $13.28B, and a TTM FCF of $0.985 B.

 

The EV/TTM FCF = 13.5. I am thinking of entering if COH drops to 45 and below.

 

Since 2008 COH has repurchased almost 20% of their shares. On Oct. 23, 2012 the BoD announced an authorization to repurchase up to an additional $1.5 B of outstanding shares through June 30, 2015.

 

The May 45-strike puts were bid at $0.75 at the end of the day on Friday. I will probably write some of those puts this week, which would be a return of about 1.6% in less than two months and if I get put to I am getting some shares at my desired entry point.

 

[LC]

Coach has been on my radar for a few months. I generally tend to avoid fashion companies and personally I think Coach offers a poor value in terms of price vs. quality. That however does not make it a bad investment. They are a staple, have an established business operation, and are worldwide. Strong balance sheet, not too capital intensive...I think their only major risk is a global economic issue. That said the equity isn't cheap so you're probably correct in writing puts.

[boilermaker75]

Coach has been on my radar for a few months. I generally tend to avoid fashion companies and personally I think Coach offers a poor value in terms of price vs. quality. That however does not make it a bad investment. They are a staple, have an established business operation, and are worldwide. Strong balance sheet, not too capital intensive...I think their only major risk is a global economic issue. That said the equity isn't cheap so you're probably correct in writing puts.

 

I took my cautious approach and wrote a small number of May 45-strike puts for $0.75.

 

If COH falls towards 45, I'll take a look at writing 40-strike puts.

[Hawk4value]

Just read today that Coach has purchased 740,000sqft of condo space in NYC for its new hqtrs, in a new building being developed by Forest City. The cost is $750 mil, an incredible sum. Whenever I read that a company is building a "Taj Mahal" headquarters building I run the other way. The last time I read a similar thing was when Tom Ward built his hqtrs building for $100 mil. At that point I stopped my DD on Sandridge and never invested in the company.   

[hyten1]

Hawk4value

 

i don't have much insight into coh

 

but nyc condo typically goes for 1000/sqft

 

many typical residential condos 1 bdr, 2 bdr, studio etc cost $1000 per sq ft

 

fyi

 

 

hy

[myvalueedge]

My experience with COH dates back to early 2009 when I accumulated a stake at $14/share.  Then trading close to a 20% FCF yield, expanding in China, doing their best to maintain brand equity by refusing to discount at NA retail stores.  Lew Frankfort and Reed Krakoff have done an exceptional job growing the brand and allocating capital.

 

I have stumbled across a few bullish writeups in the value camp noting a decline from the high of $78 to around $50 now.  Broyhill Asset Managment posted an excellent research report (if you can't find it online just email me).  I have now updated my calculations to reflect current numbers (see attached) and concluded a review of the company was warranted.

 

Prior to FY09 COH sales were concentrated in NA and Japan with China being the growth outlet.  Over the past 3 years COH has expanded by opening stores in additional Asian countries and taking full control of the distribution.  They are also attempting to crack the Europe market and Brazil.  Management has noted great reception of the COH brand in these new markets (I am critical as they do not break out margin numbers and sales figures for the various countries so it is hard to discern their profitability).

 

Do I think COH should trade at a higher multiple than 13-14x earnings?  Given the 40-50% ROE, 70% gross margins, 30%+ operating margins, sales growth north of 10% over the past 5 years.....I sure do. 

 

With that said I have several concerns and do not think the margin of safety is high enough. 

 

1) North America - Factory vs Retail - Historically the retail stores have not been discounted.  This helps maintain the luxury brand image.  As of the end of FY09 (6/30/2009) there were 330 retail stores and 111 factory stores in NA.  As of 12/29/12 there are 356 retail stores and 189 factory stores.  The retail store base has grown 8% and factory approx. 70%.  Eventually I think this disparity will show through in margins and gradually grind down the luxury image (forcing lower price points).  It is worth noting COH does not disclose retail vs factory sales.

 

2) Lew Frankfort - is set to resign as CEO on 1/1/14 and take up the executive chairman role.  The succession plan is already set with int'l president Victor Luis taking the CEO reigns. 

 

3) men's stores - I am a value guy so it is hard for me to wrap my head around spending big money on COH goods (disclosure: I own a COH wallet).  They are expanding this concept in NA with some stand alone stores.  In the Asian markets they generally are incorporating women's and men's stores together.

 

4) CAPEX - in FY07 CAPEX was $45M.  COH is forecasting $250M in CAPEX spend for FY13.  This incorporates store remodels in NA, store growth in Asia and other markets.

 

5) transformation to lifestyle brand - Handbags and accessories have dominated sales.  Now they are looking to focus more development and capital on expanding through shoes, clothes etc.  It is hard to quantify the reception and how it with reflect in additional sales, margin impact, and additional inventory. 

 

I think COH is a magnificent company and would like to own again at the right price.

COH_Calculations_040313.xlsx

[tooskinneejs]

myvalueedge, nice write up.  I owned Coach shares back in 2008 and 2009.  Great company with an enduring brand.  Affordable luxury as the company likes to say. 

 

One question for you.  You said: "Eventually I think this disparity will show through in margins and gradually grind down the luxury image (forcing lower price points)."

 

Doesn't the company make unique products specifically for the outlets using cheaper materials/production costs? 

[Palantir]

How do you get a 13.5 value for FCFE/EV? Unless I'm reading wrong, we have about 1B FCFE, and about 13.1B EV = 7.6%.

 

Great Idea though.

[boilermaker75]

How do you get a 13.5 value for FCFE/EV? Unless I'm reading wrong, we have about 1B FCFE, and about 13.1B EV = 7.6%.

 

Great Idea though.

 

I was quoting EV/FCF. So one over my number times 100 gives 7.6%.

[myvalueedge]

tooskinneejs, great comment.  COH does make products specifically for the factory channel.  They must enjoy similar margins on those products as they have consistently managed to keep gross margins above 70% with the additional factory stores.  My concern is the saturation of the factory channel diminishing the appeal for women to purchase handbags north of $300-400 at the retail stores to retain the luxury tag.  Clearly sales are very strong at the factory stores, but I am worried about them carrying the luxury image in NA after greatly expanding factory stores (lower price points). 

 

They also filter excess inventory or discontinued items from the retail stores into the factory stores (this is when my wife gets interested).  COH does not give a breakdown as they claim to manage both channels together.  With that said, close to 70% of total sales are from new products during the fiscal year.  From their 10K they claim to roll out 3-4 collections a quarter and 4-7 styles per collection.  They are constantly refreshing new inventory and using the factory channel to move old inventory as well as factory made products.

 

Palantir - I get $987.5M FCF excl. changes in NWC for FY 12 and an EV of $13.6B.  My EV reflects the dS/O from q2 FY13 of 286.223M not the 280.78M share count listed when pulling up their ticker.  My calculations could be wrong.  I attached my numbers to my first posting.

 

 

[tooskinneejs]

" My concern is the saturation of the factory channel diminishing the appeal for women to purchase handbags north of $300-400 at the retail stores to retain the luxury tag."

 

That's always been a concern of mine as well.  And you are right, the more factory stores they have, the worse this could potentially be for the long-term value of their brand.  That said, they have run the ship quite well and have avoided the "cheapened image" problem so far, as best as I can tell.

[myvalueedge]

I could'nt agree me.  Lew and his management team have made this work over a long period of time giving us little reason to doubt their ability to manage the luxury image while boosting sales and retaining margins.  Conceptually I struggle to pay a 7% FCF yield considering my concerns.  At 9-10% FCF yield I would be more comfortable.

[Yours Truly]

" My concern is the saturation of the factory channel diminishing the appeal for women to purchase handbags north of $300-400 at the retail stores to retain the luxury tag."

 

That was my biggest concern too.. This reminded me of Apple who diminished their brand by having their products being available in Target, Walmart, Staples, etc

[Ross812]

" My concern is the saturation of the factory channel diminishing the appeal for women to purchase handbags north of $300-400 at the retail stores to retain the luxury tag."

 

That's always been a concern of mine as well.  And you are right, the more factory stores they have, the worse this could potentially be for the long-term value of their brand.  That said, they have run the ship quite well and have avoided the "cheapened image" problem so far, as best as I can tell.

 

It looks like they took a margin hit during the 2008-09 recession 24.6% to 19.3% though revenue remained flat. Profit margins have been increasing since then despite a larger number of factory stores which probably means sales in the retail stores are coming back albeit a lower proportion of sales than before the recession. It seems building out the factory stores makes them more robust during hard times and gives them an outlet to liquidate outdated stock to clear room in their retail stores.

 

My fiance told me that women who know Coach know which bags are factory bags and which are retail bags. Apparently they have a line of factory only bags which are supplemented by retail bags that were not in demand in the retail stores. So the 'hot' premium retail bags keep their allure. Semi popular bags in the retail stores that make it to the factory stores are sold at a 20-30% discount after they knock $30-$50 off the retail price so a $400 bag becomes $245 which still screams luxury to me! Other handbag makers sell their bags to liquidators like TJ Max stores, or sale items at mid-level department stores.

 

Prada and Louis Vuitton bags along with a few other brands are the real luxury ($800+) brands that destroy their excess inventory to maintain their image. Coach is affordable luxury. Think Ray-ban and Oakley in sunglasses, or Lexus and Infinity in cars. Lexus is not really competing with Lamborghini, Rolls Royce, or Ferrari. I feel like I know more about handbags than I should. 

 

I like that share count is coming down about 4% a year when excluding 2004-2006. And it seems like management adjusted their share repurchase rate to take advantage of when the stock was cheap. This is definitely worth more than a 14x P/E. 

 

[CorpRaider]

I could'nt agree me.  Lew and his management team have made this work over a long period of time giving us little reason to doubt their ability to manage the luxury image while boosting sales and retaining margins.  Conceptually I struggle to pay a 7% FCF yield considering my concerns.  At 9-10% FCF yield I would be more comfortable.

 

Lew is retiring though, right?  That's the biggest concern I have.  I'm watching COH keenly though, having always regretted not exercising the rights offering from SLE stock when this thing was spun out. 

[biaggio]

I don't get buying a purse for $245 on sale let alone a Prada for $800.

 

I get selling them though.

 

I would feel better if COH refused to sell their products at a discount + did not have factory outlets.(the great premium brands never have to go on sale,no?). I would think there would be the risk of Coach being a passing fad.

 

Not an expert by any means though the girls/woman in my family like to buy Coach- I cringe when they do.

[boilermaker75]

I don't get buying a purse for $245 on sale let alone a Prada for $800.

 

I get selling them though.

 

I would feel better if COH refused to sell their products at a discount + did not have factory outlets.(the great premium brands never have to go on sale,no?). I would think there would be the risk of Coach being a passing fad.

 

Not an expert by any means though the girls/woman in my family like to buy Coach- I cringe when they do.

 

biaggio,

 

i am with you. My wife and daughter once gave me a coach wallet. I thanked them profusely although I was thinking who is going to see it in my back pocket and it will probably last as long as a $25 wallet would!

 

Boiler

[CorpRaider]

Doh! I missed this one.  Up sharply in premarket on earnings report.

[PLynchJr]

Son of a....I bought some near the low and sold a few days ago for a decent gain.

 

>:(

[boilermaker75]

Doh! I missed this one.  Up sharply in premarket on earnings report.

 

I wrote 45-strike and 50-strike puts, so I guess I will miss this one also except for the put premiums I have recieved.

 

If I don't get COH, this will be the second stock I wanted to own that I did not acquire by writing puts. The other was MCD when it was in the low fifties about 3 years ago.

 

[Yours Truly]

No mention of any buyback and pending sale of the RK brand occurring soon...

 

The only one wins in COH's rise is KORS stock holders.. lol They get the free upside along with its continued meteoric rise

[boilermaker75]

COH is down 10% on earnings,

 

http://finance.yahoo.com/news/coach-delivers-line-earnings-132006249.html

 

I just wrote some 52.5-strike Aug 2 expiration puts for $0.90 per share.

[rjstc]

COH is down 10% on earnings,

 

http://finance.yahoo.com/news/coach-delivers-line-earnings-132006249.html

 

I just wrote some 52.5-strike Aug 2 expiration puts for $0.90 per share.

 

Thanks for the heads up.

[Palantir]

Good, love it when a  stock is down on earnings. Lets see if there's any structural change now...

[Palantir]

boilermaker75 - I'm curious about something. If you assume that your "target buy" price is 50-53. (just ad hoc assumption)

 

So would it make sense to sell the January 2015 $90 puts for a premium of $38.60?

 

If the option is triggered, you have to buy it at 90, but it will be offset by premium of 38.6 to give you a purchase of  $51.40. On the other hand if it is not called, you just made $38.60 while risking $90 of capital....

 

Anybody can feel free to point out my mistake.