Coach Earnings Preview: Returning To Growth Mode, With Signs Of Improvement

| About: Coach, Inc. (COH)

Summary

Current Street EPS consensus looking for double-digit growth in fiscal '16 and '17.

Expected revenue growth is mid single digit for the next two years.

International, Men's and the Stuart Weitzman shoe acquisition replacing the eroding handbag business.

Free-cash-flow still positive, very important to finish the turnaround.

Coach (NYSE:COH), the upscale handbag retailer that is in the midst of a longer-term transformation to more international business, men's wear and building the Stuart Weitzman shoe line, reports their fiscal Q4 '16 financial results before the opening bell on Tuesday, August 9th, 2016.

Table of current consensus:

EPS cons y/y gro Rev consensus y/y gro
Fiscal q4 '16 $0.41 16% $1,166 32%
Fiscal 2017 $2.20 14% $4,672 4%
Click to enlarge

Source: Thomson Reuters EPS and revenue consensus as of 8/5/16

Coach has not had a positive North American comp since March, 2013. It does look like the Street is expecting a "low-single-digit" positive comp for COH for fiscal q4 '16.

Looking at the above numbers and our internal spreadsheet, the bottom-line is Coach is returning to growth mode, with the main question being how fast and how sustainable is the revenue and EPS growth and is the transformation the right vision for the future ?

To give readers a little history or perspective, Coach generated 8 consecutive quarters of negative revenue growth starting with the September, 2013 quarter and ending with the September, 2015 quarter.

Here is a brief table of year-over-year growth for Coach's P/L:

Y/y gro 3/16 12/15 9/15 6/15 3/15 12/14 9/14 6/14 3/14 12/13 9/13
Rev +11 +4% -1% -12% -15% -14% -10% -7% -7% -6% -1%
Op inc +4% +3% -8% -45% -44% -37% -44% -38% -25% -17% -3%
EPS +22% -6% -23% -47% -47% -32% -31% -34% -19% -17% 0%
Click to enlarge

Source: internal spreadsheet, P/L modeled

Readers can see that with the holiday quarter last year, fiscal Q2 '16, the turnaround that has been in play at Coach (sorry, bad pun) began to take effect.

There seems to be three initiatives at work at Coach:

1.) Grow Men's product line: Men's is now 17% of revenue and growing nicely. The segment isn't broken out on Coach's financials so readers can't be given detailed numbers, but the product line does continue to garner positive analyst comments.

2.) Grow internationally: International has grown from 32% of Coach's total revenue to 45% last quarter, as US has slowed from 67% to 48% as of the March '16 quarter.

3.) Stuart Weitzman, Coach's high-end shoe acquisition, is 8% of total revenue and will start to lap the closing date of the bolt-on product acquisition date from fiscal q4 '15 so investors should start to be able to determine year-over-year growth rates.

US and International (so far) contribute all of COH's operating income.

4.) Operating margin of 20%: Morningstar's retail analyst talks about Coach returning to a 20% operating margin by 2017, and ultimately 23% after that, which is a sharp improvement from last quarter's 17%, but still a far cry from the 30% - 35% in 2012.

Valuation: trading at 22(x) expected fiscal '16 earnings, which grew just 1% and 19(x) expected fiscal '17 EPS expected to grow 14%, the stock looks reasonably-valued on a PE or PEG basis.

On a cash-flow basis (ex-cash) COH is trading at 14(x) and 28(x) cash-from operation and free-cash-flow respectively, which doesn't look particularly attractive.

Morningstar assigns a $45 intrinsic value to COH, while the nearer-term value assigned by a model I use is closer to $50 and might be higher if the 2017 earnings and revenue guidance meets the current consensus for fiscal 2017.

The dividend yield is roughly 3.5% and the dividend as a % of free-cash-flow in dollars is close to 100%. That is a bit worrisome, but with the drop in revenue and operating income in the above table, as you would expect cash-flow and free-cash-flow has fallen as well.

The fact is the current Street EPS and revenue consensus is looking for 4% - 6% revenue growth and 14% - 16% EPS growth for COH for fiscal '17 and '18, which began July 1 '16.

The turnaround looks to be taking hold.

Technically, a higher-volume trade above $44 - $45 and the stock begins to repair itself after the drop from $80 in March, 2012 to the low at $27 - $28 in late 2015.

Click to enlarge

Conclusion: Coach looks to be fairly-valued to slightly undervalued today to the tune of 10% - 15%, given current Street consensus but much of the stock price action will be driven by 2017 guidance by management and whether those expected growth rates can be maintained.

The fact is - like so many retailers today - COH is trying to open fewer stores, and in fact store count is down 6% in the last two years from 1,021 stores to 961, which reduces the drag on free-cash-flow, but cash-from-operations and free-cash-flow are both down 50% from their 2012 highs.

What I'll be looking for August 9th's results and commentary:

1.) 2017 EPS and revenue guidance maintained or even boosted.

2.) Cash-flow and free-cash-flow that also continues to show stabilization or improvement and some commentary on store count. Remember, fewer stores opened means less capex which means more free-cash-flow, and that means additional capital returned to investors.

3.) Operationally, better margins are necessary, while good commentary by management about Men's and Stuart Weitzman also will go a long way to assuaging investors worry about the strength and durability of the turnaround.

The fact is turnaround's are rare in retail and they are getting tougher with the pressure Amazon (NASDAQ:AMZN) is putting on all retailers not just mass merchandise, as Wal-Mart (NYSE:WMT) feels pressure from Amazon and that pressure trickles down to the rest of the retail food chain.

I have a very small position in COH in one client account per that client's request. Given that the stock is still technically below its 200-week moving average, I'd rather wait and see what guidance looks like on Tuesday, before taking a bigger position in the stock.

However there is enough positive happening here in terms of the turnaround of the key metrics that I'm interested longer-term.

Disclosure: I am/we are long COH, AMZN.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.