For Coach Inc. (NYSE:COH), handbags are its most important business, contributing close to 60% to its value. The retailer reaches its customers through company-operated retail & factory stores, wholesale distributors, freestanding stores and the internet. Coach typically releases three to four collections per quarter and four to seven styles per collection.
Coach’s handbags come an “affordable luxury” price point as they are significantly cheaper than other luxury brands such as Louis Vuitton, Gucci and Prada but still have strong brand recognition. Moreover, the retailer is responsive to changing fashion trends, provides an rich in store experience, good customer service and lifetime warranties. This makes Coach one of the strongest players in the handbags market.Despite the handbags large size relative to Coach’s other businesses, this division has been growing faster than other segments such as belts & wallets for the past 3 years.  We believe that handbags business will play a crucial role in driving Coach to $68.
What Gives Coach’s Handbags An Advantage?
Luxury handbags are often perceived as a status symbol and a lifestyle choice. Coach offers distinctive, well made and relevant products, and the retailer utilizes customer feedback to remain flexible towards fast-changing customer needs in the dynamic luxury goods market. Moreover, it offers a lifetime warranty on its handbags, which its customers appreciate.
The slow economic growth in the U.S. has influenced buyers to become more conscious about their spending. In such an environment, Coach’s ability to provide luxury and quality handbags at lower prices gives it a competitive advantage over its pricier peers. While the average price of a handbag from Coach is around $325, shoppers pay around $2,000 for a typical Louis Vuitton handbag and $1,000 for a Gucci or a Prada handbag. Additionally, Coach has accelerated its factory stores expansion where the customers can buy handbags at lower prices than its full-priced flagship stores.
Wholesale Channel Is Weak But Coach Should Not Be Concerned
In the wholesale segment, Coach sells its products through other department stores. As a result, the retailer runs the risk of increasing competition from retailers such as Macy’s (NYSE:M) (including Bloomingdale’s), Dillard’s (NYSE:DDS), Nordstrom (JWS), Sacks (NYSE:SKS) (including Carson’s) and Lord & Taylor. These retailers offer a wide collection of handbags from a number of different designers. This has weighed on Coach’s wholesale handbags revenues in the recent past. However, this channel accounts for only 15% of its handbags revenues and thus less than 10% of its estimated value. We believe that with faster expansion of retail stores, increasing competition in wholesale channel will not be a concern for Coach.
International Growth Opportunity
Coach recorded a revenue growth of 40% in China in Q1 fiscal 2013.  China, with its huge population, booming middle class and rising disposable income, is becoming the focal point for apparel and accessories retailers.  Coach is aiming for $500 million in annual revenues from this region by fiscal 2014 as compared to $300 million in fiscal 2012. To attain this, the retailer plans to open about 30 stores annually in the region. 
Coach also entered markets of Brazil, Vietnam & Kuwait via its wholesale channel during fiscal 2012.  Other emerging markets, including Brazil, South-East Asia and Middle-East will experience a 25-30% growth in luxury goods spending in the next five years as personal wealth, spending capacity and fashion consciousness increases in these markets. 
Key Risks To Consider
Although Coach seems to be on the right track, its growth can be hindered by weakness in the Chinese economy. In the third quarter, the GDP growth rate in the region fell to 7.4%, its lowest level in the last three years.  If China’s economy were to slow further, the retailer might be more tentative in aggressively opening new stores.
If Coach is unable to respond to changing trends and customer tastes, its brand appeal could suffer. If this were to occur, customers could shift to other affordable brands. Coach needs to maintain its strength in fashion responsiveness to maintain this brand strength.
The competition in the wholesale segment could further intensify with increasing penetration of private label brands at department stores. Although competition also exists in the retail segment, we believe Coach’s brands and prices are safe in the retail channel vis-a-vis the wholesale one.
To gauge sensitivity, if the above mentioned factors drag down daily handbag revenue per store from the estimated $13,100 to $12,000 towards the end of Trefis forecast period, there could be downside of the order of 5%-10%.
Our price estimate for Coach stands at $68, implying a premium of about 20% to the market price.
- Coach’s SEC filings
- China’s Middle-Class Boom, CNN Money, June 26 2012
- Coach’s Q4 fiscal 2012 earnings transcript, July 31 2012
- China’s GDP grows at slowest rate for three years, The Telegraph, Oct 18 2012
Disclosure: No positions