For a company concerned with maintaining the affordable luxury appeal of its brand, putting the brand name on everything from cameras to underwear seems counterproductive to creating an exclusivity narrative. For a company working to establish brand pricing power after department store discounts cannibalized brand perception and profit margins, making the company's name more ubiquitous seems similarly antithetical to the story the company is trying to tell.
This is the problem with Michael Kors (NYSE: KORS). The company is trying to tell investors one story while acting protagonist in an entirely different narrative. For well over a year, I have followed the company's every move and remained in a somewhat-bullish to completely-bullish range, citing the company's ability to develop their men's offerings, grow in international markets, and successfully expand licensing sales as reasons for optimism. Today, this optimism dissipated with good reason.
It can be easy to get caught up in traditional financial metrics (admittedly, I did this with Michael Kors once myself). Sure, the P/E ratio is low, and other site contributors are correct in asserting that China sales numbers are encouraging, but investors must look beyond these numbers and focus on the company's actual offerings. Looking at brand management and attempted new product launches it becomes quite clear that the company is simply treading water (fittingly, the stock chart over the past year appears as though it too is treading water).
To the licensing end, I applauded management for "licensing to only the best partners, including Fossil for jewelry, Estee Lauder (NYSE:EL) for fragrances, and Luxottica (NYSE:LUX) for sunglasses." Though it was a natural extension of the firm's brand at first, things are beginning to get carried away as the company recently expanded into Smart wear with their Access watches and continued to dive deeper into fragrances (they can even be found at Walmart). This is part of the dilemma facing Michael Kors: put the brand on everything in a Pixar-esque move to drive maximum impressions and dilute the luxury perception or focus on a core product line and dazzle consumers. It is worth noting that even with this deluge of product offerings the company's licensing sales fell 10.2% last quarter -- more products, yet still lower sales, suggests the company is losing steam.
The licensing issue is just one component of a negative self-reinforcing feedback loop plaguing the company. The larger issue is that as the company dabbles in more and more segments they are losing touch with their core, becoming ubiquitous rather than prestigious, commonplace rather than exclusive.
Consider the rise of the company's Men's business, a strategic move I have long heralded as a necessary evolution of the brand. Even this strength can spell doom over the medium to long-term: if the brand grows ubiquitous amongst men, it will lose its luxury status as everyone then owns it. Even worse, women may be turned against the brand as it becomes seem as more of universal apparel company and less of a handbag curator. This is the feedback loop troubling Michael Kors. Launching new products will move further the company further from its core. failing to develop any true differentiated, luxury offerings.
This same negative feedback loop looms over each operating segment as a sword of Damocles and has plagued the business in the past: as the amount of domestic stores skyrocketed the firm lost demand, which forced closures. If the company's product expansions are failing to generate growth and core markets appear saturated -- wholesale sales declined 18.4% last quarter and North American comps fell by mid-single digits -- what is there to be encouraged about in Michael Kors's future?
Michael Kors's negative self-reinforcing feedback loop is already beginning to hurt the company, posting low double-digit comparable same store sales declines in Europe this past quarter. Now, to be fair, management mentioned this was largely a result of "continued consumer uncertainty related to Brexit and lingering concern following the terrorist attacks in Belgium, France and Germany, as well as other geopolitical issues. That said, we continue to believe that the Michael Kors brand remains strong in Europe."
Seems plausible enough, but let's dig a little bit deeper. One of Michael Kors's principal competitors, Coach (NYSE: COH), reported just nine days earlier on November 1st. Coach's management said "In Europe, our sales grew at a double-digit pace in the quarter, driven by new distribution and positive double-digit comps, excluding Paris, where our business continues to be impacted by weak tourist traffic. Post the Brexit vote, we've actually seen very strong results in the UK, benefiting from the currency weakness and increased traction with the local consumer."
With comps unambiguously strong in Europe for Coach, one of three things must be behind Michael Kors's abysmal performance: either Michael Kors is operating in an entirely different Europe, Coach is immune to geopolitical uncertainty, or European consumers have tempered their Michael Kors enthusiasm. Given that there is just one Europe and given that it is very difficult for any company to navigate (let alone be immune to) geopolitical uncertainty, it must be the latter.
The trend in Europe manifests an earlier point of mine -- Michael Kors is stuck treading water. The company simply cannot successfully put its name on everything and expect to maintain its luxury status; worse yet, management refuses to take accountability, placing blame for the quarter on external geopolitical forces. If management truly believes its problems are external they will never be addressed. After this quarter's weaknesses and management's refusal to acknowledge the brand's own role in creating it, I am staying far, far away from Michael Kors.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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.