Last week I posted an article outlining the fundamentals for Coach Inc (NYSE:COH) and used reverse discounted cash flow model to estimate how much growth market is currently pricing in its stock price. To my surprise, for the next 5 years the market expects annual operating income growth of 13.5% for Coach and 63% for Michael Kors (NYSE:KORS).
This disparity in expectations is primarily driven by the rapid growth momentum behind Michael Kors since its IPO in late 2011. For the last 3 years, revenue at Coach grew by 12.05% to $5.06 billion and Michael Kors revenue rose by 62.53% to $2.62 billion. Rapid growth enjoyed by Michael Kors has altogether changed investor's perception towards Coach. Before getting overly pessimistic for the company and its future, investors need to discern the consumer segment which Coach targets, understand evolving consumer behavior and then hypothesize the steps company needs to take to re-align itself for future.
1. Young Adult (20-34 years) Female consumers in this segment (represent 20.9% of female population- see table below) tend to purchase more hand bags than their older counterparts. Also, purchasing habits for this group are more impulsive and less driven by necessity. This consumer segment makes the most purchases per year, and will be a key factor for driving demand for accessories higher. Consumers in this group are a key target for moderate price bags. Companies that are able to capitalize on purchases by young adults at this moderate, but above-average price point, could be well-positioned for growth.
% of Female Population
(Source : US Census Bureau)
2. Core mid tier consumer (35-44 year) group has a high concentration of frequent handbag buyers, representing only 16.0% of the female population in United States. Additionally, proportion of women earning $50, 0000 and over is quiet high for this age group - which explains the higher frequency of purchases coupled with a willingness to pay for high end brands. Average price paid by women in this segment for a hand bag is higher than other demographics. Brands are channelizing their efforts to engage and educate customers from this group, striving to maintain the emotional bond between the brand and the consumer. While all segments of the market have been impacted by recession in one way or another, the core mid-market offering is still in high demand for Coach.
3. Affluent Consumer. With the rise in the highest price paid for a hand bag, this small segment of affluent women earning $100,000 and over is a key segment for Coach to generate revenues with strong margins. With the rise in stock markets and real estate prices - wealthy consumers tend to spend more on luxury items - which presents a strong opportunity for Coach.
4. Rising middle class in emerging markets presents a very attractive business opportunity for the global luxury brands.
a. Brands should focus on sharing rich cultural heritage, broadening product assortment mix, and developing an emotional relationship with the consumer
b. Asian population which represents about 3.8% of the U.S. population (Source : US Census Bureau) is growing quickly and has a higher median household income than any other racial or ethnic group in the U.S. This suggests that there should be an increased focus by handbag companies to lure Asian consumers. It should also be noted here that growth in China and Japan has helped Coach offset some of the recent losses incurred in North America.
As the luxury goods market becomes more competitive, brands need to increase their customer base, broaden their product assortments, and focus marketing efforts on best selling items. As a company Coach is boosting its customer base by offering two tiers of its brand -one that is subject to discounts and one that is not. This should also shed light on why Coach is expanding its factory stores faster than regular price stores in North America. Coach aims to transform its image to a lifestyle brand to elevate its brand appeal amid growing competition from fashion newcomers including Michael Kors. The company is expanding its product portfolio with outerwear, apparel, watches and jewelry. Traffic at Coach's stores could increase due to this strategy which would also positively impact the sale of other products.