Hermès Still Looks Expensive At 50x P/E, 0.65% Dividend Yield
- As was widely expected, Hermès posted exceptional full-year fiscal 2021 results, with strong growth in revenue, profits and its net cash position.
- Fourth quarter figures imply a more subdued near-term, with the firm running up against production constraints and likely downward pressure on record-high margins.
- That is largely to be expected, however, and doesn't detract from the company's great long-term prospects.
- That said, the valuation remains pretty expensive, with the shares currently at a P/E of around 50x.
For a while now, my main concern with Hermès (OTCPK:HESAY)(OTCPK:HESAF) has been the extent to which multiple expansion has been juicing overall shareholder returns. Sure, "quality growth" can undoubtedly be a great long-term winner - and I should point out that Hermès has both in spades - but a valuation north of 60x earnings and a sub-1% dividend yield, as it was when I previously covered it, was asking a lot of the underlying business. That perhaps applies more so here, given that growth does need to be carefully managed.
Given that, the quiet spell since last coverage probably shouldn't be all that surprising, with Hermès stock down roughly 10% since then in Paris trading. It is also down nearly 30% since hitting its peak back in November.
Coupled with strong fiscal 2021 earnings growth, the above represents a slight downward re-rating on the stock. I have it at a P/E of 50x FY21 EPS right now, which still leaves it fairly expensive, especially since growth will moderate this year as sales and profit margins normalize following stellar 2021 results. The business does still have very attractive long-term growth prospects ahead of it, but with many years of double-digit EPS growth still baked into the stock price, I'm not yet shifting from a "hold" rating.
Full-Year Results Come In Strong As Expected
Strong fiscal 2021 numbers were expected given the way things were trending in the first half, but they are worth appreciating, nonetheless.
For the full-year, group-wide revenue came in just shy of €9bn, up 41.8% in constant currency terms versus 2020. Sure, that was always going to look good given how soft the comp was, but even on a two-year basis revenue growth was incredibly impressive, clocking in at 33% in currency-neutral terms.
All geographic areas recorded strong double-digit year-on-year sales growth, with France the only area recording negative growth on a two-year basis. Subdued tourism to Paris, particularly from Asia, explains part of it, though strong performance in the provinces (driven by local buyers as per management) helped to offset that. Aside from wider Europe (+9.8%) and France (-3.5%), all geographic areas also posted double-digit growth versus 2019. Asia-Pacific ex-Japan remains the standout performer, with sales up over 65% at constant exchange rates on a two-year basis.
Profit and free cash flow growth were even more spectacular. Net income increased 60% versus 2019 to €2.445bn (€23.30/share), running ahead of sales growth thanks to record net margins (27.2% in 2021 versus 22.2% in 2019). Adjusted free cash flow was €2.661bn (versus €1.406bn in 2019), with the net cash position swelling to €6.695bn at year-end, up from €4.717bn at the end of 2020.
Fourth Quarter Figures Point To A Moderating Outlook
While most of the above was expected, results covering the back-end of the year give us a better guide for how things will play out going forward. Of particular note was the 5.4% year-on-year drop in Q4 sales in the Leather Goods and Saddlery sector (worth almost half of total group sales), which contributed to a circa €150m group-wide sales miss versus the Q4 consensus estimate.
Although that created a little bit of consternation - the shares fell heavily on the day - I don't think shareholders should be too concerned. I mean, this was never going to be a business capable of sustaining the kind of double-digit annualized growth we saw last year. Demand is still exceptionally strong - with management noting, for example, that 70% of digital customers were new to the company - but capacity constraints are proving an acute issue. There are only so many bags its artisans can produce, especially since they are handmade with rigorous requirements in terms of procuring the appropriate raw materials and so on.
Dovetailing with that is something mentioned before: 'supply management' is a key part of the business here, in that Hermès products can't be seen to become ubiquitous for obvious reasons. Worth noting with respect to both of those points is that most growth here has been volume-driven; the pricing contribution has really only come in at inflation, or around 2pts per annum in recent years.
Likewise, there is going to be a bit of moderation on the margin front as benefits from the run-down in inventory wear off and the company invests more in labor and marketing. Again, that's nothing to really worry about - more a normalization of the factors that led the company to 'over earn' last year - but it's definitely something to bear in mind for fiscal 2022.
Shares Still Look Expensive
As I type, Hermès' shares change hands for just under €1,200 apiece in Paris trading, equal to around 51x FY21 EPS. The dividend yield is ~0.65% based on the proposed full-year payout of €8.00 per share.
As implied above, a quieter performance in terms of profit growth this year seems pretty likely. Revenue growth should still be solid - with management sticking with its ~7% per annum organic growth target, plus circa 3.5% on pricing this year to offset cost inflation, but currency and margins will weigh a bit on the bottom line.
Longer-term, I'm still expecting double-digit annualized EPS growth, driven by a combination of 9-10% per annum sales growth plus fixed cost leverage. China, and the wealth percolating from it, remains an incredible growth driver. I'm also hoping that the company can get a bit more aggressive on pricing if/when its organic growth prospects do slow down a bit, though that doesn't seem a near-term prospect.
While the long-term growth outlook is still rosy, it remains hard to argue that the valuation doesn't continue to reflect this. At a roughly 50x P/E, I'm expecting a long-term headwind of low-single digits per annum from a contracting valuation multiple, with years of double-digit EPS growth needed to burn that off. Hermès might well be good for it, and it remains one of the highest quality businesses in the world, but implied high single-digit annualized returns with no room for error doesn't make its shares an obvious buy right now.
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