Buying Michael Kors (NYSE:KORS) at $64 clearly was a mistimed investment on my part, as the stock has declined to the mid-$40s after the company’s latest earnings. Where I purchased the stock is meaningless at this point. Therefore, I will review this past quarter’s results as if I were considering purchasing it today. The headline numbers were very disappointing (a 1.7% constant currency same-store sales decline), but when you dig deeper, I believe there is a silver lining to the results, which can lead to the stock regaining some of its losses. I am giving the company the benefit of the doubt because of its low valuation, as its P/E is slightly above 10x.
cheap michael kors
KORS gave two excuses as to why it reported disappointing same-store sales growth in North America (down 5.8% on a constant currency basis). The first was the strong dollar, which caused European and Middle Eastern tourists to purchase much less product, particularly in the New York City and Las Vegas locations. The second was the weakness in the watch category. I emailed the company asking whether the Apple (NASDAQ:AAPL) Watch caused the decline in watch sales in North America and got a boilerplate response refusing to name it specifically. It is fairly obvious that sales were impacted by its release this quarter.
cheap michael kors bags
In hindsight, it is easy to see how the strong dollar would limit the purchasing power of tourists. The company mentioned a decline in sales directly correlating with the decline in the dollar. The media is portraying Michael Kors as a company whose merchandise is going out of style, but I think this is jumping to false conclusions. Having their purchasing power decline by about 30% not surprisingly made tourists shop less. This isn’t a reflection of the brand strength. Typically, investors look beyond currency issues, viewing them as transitory. This is why companies report earnings on a constant currency basis. Unfortunately, the company felt a double whammy effect from the negative tourist effect and the translation of foreign earnings into dollars.
cheap michael kors purses
Sometimes companies blame macro events for their missteps, when in reality, it was their poor execution which caused the problems. This is why it is important to look at what other companies in the industry are saying about the environment.
The effect went in reverse for Tiffany, as it said it experienced gains in Europe because of the weak currency. Michael Kors may have seen this effect, as its same-store sales in Europe grew by 11% on a constant currency basis. However, its European segment is not a big enough part of the business to offset the negative results in North America.
I plan on owning Michael Kors stock for the long term, so I feel these currency pressures can be managed, although they will negatively affect next quarter’s results. The guidance for next quarter is for a worsening of same-store sales, which are expected to be in the negative mid-single digits on a constant currency basis. The full-year expectations get better, with a low-single digit increase projected from management. There are a few reasons why the metrics should improve in the back half of the year.
The first is that the online sales will begin to be included in the same-store sales metrics. The website, which was launched in the fall of last year, had 44% growth, so this should boost the numbers. Online sales were hurt by the roof collapse at one of its inventory warehouses, which I discussed in my last article. This affected the North American comps by 480 basis points. It also caused the company to cease advertising for 5 weeks until it could be sure it could fulfill orders in a timely manner. Besides the website being lapped, the company has a few initiatives it is working on. It mentioned a new gifting program which will capitalize on holiday sales. It is implementing a personal shopping concierge experience to upsell its customers to purchase more product per visit. The final initiative surrounds the watch sales, which I will discuss in depth now.
The watch sales were disappointing in North America, which is likely because of the release of the Apple Watch. The Michael Kors watches are sold in a licensing deal with Fossil (NASDAQ:FOSL). As you can see from the chart Fossil had in its last quarterly report, the watch business did poorly compared to the jewelry business. Kors stated its watch sales shifted to its jewelry business, but these transaction amounted to half of what the watch business has.
The competitors have yet to come up with a response product which offers similar features to the Apple Watch. Kors will be changing 30% of the watch assortment in the spring as it highlights its metal materials mixtures in products such as the acetate clear watches. However, the big release which will show how Kors will compete with the Apple Watch will be in the holiday shopping season. Analysts are not anticipating a successful launch.
With the stock’s 24% decline after earnings and this sentiment prevalent among analysts, I feel betting on a successful Kors/Fossil smartwatch launch makes sense. Fossil is engaged in a partnership with Intel (NASDAQ:INTC), which gives the company added credibility on the technology aspect of the product. The chances of success are not being reflected in Kors’ stock price. Kors is excellent at designing products comparable to Apple; the integration of the technology is what analysts are uncertain about. I believe Intel will be able to deliver a great product which will quell their worries According to Digital Trends, the Apple Watch has slowed its pace of sales to 30,000 devices per week. This is below analysts’ expectations. This may leave room for Kors to compete successfully in the smartwatch category.
Michael Kors initiated an additional $500 million to its $1 billion buyback. The company has zero debt, so this capital return program is where its free cash will go after it spends on cap ex to build out its international website and new stores. Out of the $1.5 billion buyback, $1 billion is remaining. I think the stock is undervalued, and management agrees with me.
The 10x P/E seems cheap at face value, but comparisons need to be looked at to determine if it is actually undervalued. Kors reminds me of two other retail stocks I have owned in the past which had extraordinary growth, hit bumps in the road, and then had their stocks rebound. These two companies are Deckers (NYSE:DECK) and Lululemon (NASDAQ:LULU). If you’re curious, I doubled my money in Deckers, selling at the top. My timing in Lululemon wasn’t good, as I lost money because I sold before the bounceback in shares. These two companies sell high-end products and had experienced huge growth, generating massive gains in their share prices. They then had declines in their share values as the inevitable maturation process began to occur. I will be looking at their P/E multiples at the bottom of their declines to see whether Kors may be near a bottom. As you can see from the chart below, Deckers’ P/E went to about 7x before bottoming.