With a steady stream of pundits prognosticating the demise of the American consumer, investors may be surprised to learn that the S&P 500 Consumer Discretionary Index has handily outperformed the broader market over the past two years (see “Consumer Strength”)
That’s an impressive feat considering the headwinds facing shoppers: tightening consumer credit standards, elevated unemployment levels and rising energy prices.
There’s a kernel of truth to the narrative that consumer spending remains lackluster. Americans are saving more and spending less; they remain focused on paying down their significant debt burdens. But not all the news is negative. Thanks to deleveraging and record-low interest rates, Americans now spend less of their disposable income to service their debts than at any time since the early 1980s (see “Payback”).
Spending is shifting, not disappearing. Consumers increasingly shop for bargains online rather than at shopping malls. Wealthy and upper-middle class consumers in the U.S. and overseas have weathered the economic headwinds and continue to purchase luxury items.
Although U.S. consumer spending has slowed in aggregate, rising household incomes in rapidly growing emerging-markets have led to the emergence of a new consumer class with the will and the wallet to spend on discretionary items. Inflation in China has also declined sharply since midsummer, suggesting that policymakers have engineered a soft landing for the economy without stalling economic growth.
I continue to recommend that investors focus on names that cater to the haves rather than the have-nots when allocating money to the increasingly bifurcated consumer-discretionary sector.
Shares of luxury jewelry retailer Tiffany & Co. (TIF) have endured a rollercoaster ride this year, reaching an all-time high in July only to plummet in late summer amid fears about the health of the global economy.
But the growth scare hasn’t curbed customers’ appetite for the finer things in life; Tiffany & Co. has outperformed Wall Street’s expectations for six consecutive quarters. The company’s earnings per share surged 58 percent to $0.86 during its fiscal second quarter, an impressive total that blew analysts’ consensus estimate of $0.71 per share out of the water.
This growth was driven by better-than-expected gains in all product categories and across all regions in which the company operates. Management boosted its full-year earnings guidance by $0.20 per share to a range of between $3.45 and $3.65 per share — the third time this year that Tiffany & Co. has raised its forecast.
The Americas remain Tiffany & Co.’s single largest market, representing about half of the firm’s operating profits. Sales in the U.S. — the company’s largest market — rose 25 percent in the second quarter despite lingering concerns that jagged stock market volatility would lead wealthier consumers to rein in their spending. Sales of the company’s iconic jewelry, which accounts for three-quarters of U.S. revenue, grew by double digits in each month of the quarter.
In fact, Tiffany and Co.’s strength in the U.S. market has broadened. Items that cost more than $20,000 continue to drive revenue growth. But management also reported that sales of less expensive silver jewelry improved during Tiffany & Co.’s fiscal second quarter — a bit of a surprise after the rising cost of raw silver prompted the company to hike its prices.
Foreign tourists accounted for half the company’s U.S. sales growth in the second quarter, with the flagship store on New York’s Fifth Avenue posting a 41 percent year-over-year revenue increase on the back of strong sales to Chinese tourists. Hawaii was another strong market, boosted by purchases from Japanese visitors.
Outside the U.S., Japan and the Asia- Pacific region are Tiffany & Co.’s most important markets, accounting for about 22 percent and 18 percent of profits, respectively. Asia-Pacific sales soared 55 percent last quarter, boosted by higher sales volumes and major price increases across all product lines. The Chinese market was once again a standout in the quarter, while two newly opened outlets in South Korea exceeded sales expectations.
Tiffany & Co. reported 8 percent sales growth at stores that have been open for more than one year in Japan, traditionally one of the company’s strongest markets. In an encouraging development, sales growth in this market has improved steadily since the devastating March earthquake plunged Japan into recession.
European sales grew by 32 percent year over year in the quarter, led by gains in continental EU nations. Although the eurozone is likely to enter at least a mild recession by the end of 2011, the luxury segment has thus far been unaffected by the ongoing sovereign- debt crisis. In addition, management highlighted strong sales to Russian and Chinese tourists at its European outlets.
Tiffany & Co. has maintained profitability amid rising prices for key raw materials such as gold, silver and diamonds. In addition to hiking endprices for its goods, the company has invested in a Sierra Leone diamond mine in exchange for guaranteed supplies at an attractive cost.
Disclosure: I am long TIF.