PVH Corporation: Strong Fundamentals Make It A Strong Buy

| About: PVH Corp. (PVH)
This article is now exclusive for PRO subscribers.

Summary

Strong US dollar and decreased international tourist traffic, among other factors, have adversely affected many US consumer goods sector companies in recent past, particularly, companies with international business operations.

The stock of PVH is trading at cheap valuation multiples backed by strong business fundamentals, therefore, it offers a great investment opportunity for the patient investors.

I believe the stock is still undervalued and it is a good-fit for a diversified investment portfolio for medium to long term investment horizon.

The RSI of PVH is within the buying territory, therefore, it should be considered for a long position.

All of the valuation methods indicate that the stock of the company is undervalued and it offers a wonderful investment opportunity for long-term investors.

Investment Thesis

Strong US dollar and decreased international tourist traffic, among other factors, have adversely affected many US consumer goods sector companies in recent past, particularly, companies with business operations outside of US borders. The stocks (ownership pieces) of those companies followed the business trends and showed a great deal of volatility in their prices. However, such volatilities creates investment opportunities for investors looking for value in the underlying businesses. If a company has a good business model, solid fundamentals, and strong financial position in terms of liquidity and asset base, the stock of that particular company could be a great investment opportunity for the long-term investors.

One such company is PVH Corporation (NYSE: PVH). The stock of the PVH is trading at cheap valuation multiples backed by strong business fundamentals, therefore, it offers a great investment opportunity for the patient investors. The stock price touched below $70 at the very start of current calendar year and now it is trading just under $92, rewarded investors with a 25% gain in one year. I believe the stock is still undervalued and it is a good-fit for a diversified investment portfolio for medium to long term investment horizon.

Source: Bloomberg

Business Overview

PVH is one of the largest global apparel companies operating in 40 countries with over $8 billion in revenues, according to the recent financial reporting. The company has different business segments including Calvin Klein North America, Tommy Hilfiger North America, Calvin Klein International, Tommy Hilfiger International, Heritage Wholesale and Heritage Retail. The product brands of the company are well recognized among the brand-conscious consumers.

According to the recent financial results (third quarter), the company reported $2.2 billion in revenues, a 4% growth, on a GAAP and constant currency basis, from what company reported in the same period last year. The earnings per share (EPS) were $1.56, a drop of 42% from the corresponding period last year. The main reasons for the earnings drop were the noncash loss of $77 million reported in third quarter results in anticipation of the Mexico based subsidiary Calvin Klein deconsolidation, less international tourist activity due to stronger dollar, and unfavorable currency exchange rate movements. However, the company Chairman and CEO Manny Chirico is very confident over recent promotional activity and sees stronger margins in this holiday season. The CEO commented on the recent financial results (earnings summary):

"We are very pleased with our strong performance in the third quarter, which exceeded our guidance on a non-GAAP basis despite the volatile macroeconomic environment. We continue to over deliver against our 2016 plan, driven in large part by strong momentum across our Calvin Klein and Tommy Hilfiger International businesses. While our North America wholesale businesses have performed well throughout the year, we have not experienced any significant improvement in traffic and consumer spending trends across our Tommy Hilfiger and Calvin Klein U.S. outlet stores located in international tourist locations."

Before I discus the business fundamentals in detail, I want to highlight here that this stock is not a good dividend play for dividend-focused investors. However, the kind of return the stock offered in last one year and the return that is expected in next few years is a solid base to make this stock a good buy.

PVH is fundamentally a strong business conglomerate. The company's profitability margins are much robust as compared to the industry peer's average margins. PVH reported a gross margin of 53.09% as compared to 46.41% for the industry and 29.25% for the sector. Over the long-term basis, the average gross margin of the company is higher than the industry in the last five years. However, the company's net margins are depressed due to the negative impact of currency fluctuations. PVH has a high exposure to international business operations, therefore, depreciation of foreign currencies have had an adverse effect over company reported results.

The management of PVH seems to be less efficient in asset utilization, however, it is not a big concern when the company is big and mature as PVH is. However, the company's asset position is very strong. In terms of financial leverage, for every $1 of equity, there is only $0.69 financed through debt. Additionally, the free cash flows the investors should be more concerned about are at healthy level ($846.80 million) to make the company financially strong.

Source: Author Calculations/ stockrow.com

Lastly, share repurchase program is a very hot topic in the corporate world. Normally, companies use this program either to reward its shareholders by returning their capital back or to offset the dilution effects resulted from the share based compensation programs. PVH too has a share repurchase program and in first nine months of 2016, the company repurchased approximately 2.3 million shares for $226 million under the current $500 million repurchase authorization. The share repurchase program is considered a positive factor by the investment community. Normally, the stock price increases in response to such an initiative because it is executed at premium. There is still more than half left in current repurchase authorization and it has 18 months to expire.

Valuation

Now let's have a look on PVH stock valuations relative to industry and the market as a whole. All of the relative valuation measures indicate that the stock of the company is much undervalued. First of all, look at the P/E multiple which is widely used as a benchmark in relative valuations. The P/E multiple of the PVH is 12.79 times its earnings as compared to 22.72x for the industry peer's group and 19.9x for the broader market. This initial test shows that the stock is much cheaper at current price level. All of the other relative valuation measures shown in the below table shows that the stock of PVH is much undervalued as compared to the peers and the broader market index.

Source: Author Calculations/ Morningstar

Note: The PVH peer's group includes companies namely GIII Apparel Group (NasdaqGS: GIII), Gildan Activewear Inc. (NYSE: GIL), Carter's, Inc. (NYSE: CRI), Ralph Lauren Corporation (NYSE: RL), Columbia Sportswear Company (NasdaqGS: COLM), and Kate Spade & Company (NYSE: KATE).

To go further deep in relative valuation context, I used enterprise value multiple (EV/EBITDA) and equity value multiples (P/E and P/FCF) to value the stock of the subject company. First, look at the below table where I used EBITDA multiple to value the stock. Based on this valuation method, the intrinsic value of the stock is $137.63 which indicates that the stock has about 49% upside potential from the current price level. Please note that my investment horizon is long-term, ranging from 18 months to 24 months.

Source: Author Calculations/ stockrow.com

Now look at what the equity multiples say about PVH's investment prospects. Among the two multiples I used in valuation, the P/E multiple shows that the stock has over 66% upside potential. Similarly, the P/FCF multiple indicates an upside potential of over 27% in the stock from the current price level. Averaging out the three valuation results brings us to the intrinsic value $136 that shows the stock of PVH is much undervalued and it has a potential to go up about 48%. The consensus price target is $124, an upside potential of 35% from the current price level. All of the valuation methods discussed above indicate that the stock of the company is undervalued and it offers a wonderful investment opportunity for the long-term investors.

Source: Author Calculations/ stockrow.com

Fundamental valuation is a prime way to value stocks. However, if the Technical Analyses are combined with the fundamental valuation methods, they can improve the investment decision making process and can make the investment thesis stronger. The relative strength index (RSI) is a frequently and widely used technical indicator to judge the stock's investment prospects. The RSI of PVH is within the buying territory, therefore, it should be considered for a long position. Another important indicator that is commonly looked-after is the "short interest" of the investors in the stock. The stock of PVH has a short ratio of 1.89 and total shares short are 2.34% of the float. These numbers are not significant and shows that there are only few in the investing public who are bearish on PVH stock. Additionally, the short interest has dropped 0.53% from the previous month. This indicates that the majority of the investment community has a confidence at the stock and they are bullish on the PVH.

Source: Bloomberg

Overall analysis of the PVH shows that the company is fundamentally strong and its stock is undervalued. Based on the fundamental and technical valuation methods, the stock of the company offers a wonderful investment opportunity at current price levels and offers an upside potential of over 35%. The stock should be considered a buy for a diversified portfolio of stocks.

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.