- Macy’s said last week on their earnings call that their luxury business is very strong. This has been expressed by companies domestically and in Europe.
- Moncler also reported last week saying European business accelerated. This is 30% of CPRI's and 70% of PVH’s business. But beyond Europe, luxury competitors LVMH and Kering hit new highs daily.
- China setting growth at 5% vs. 5.5% is positive as 5.5% would have increased the risk of inflation. China reopening gives CPRI and PVH a boost as Chinese tourists begin travelling.
- CPRI was oversold as investors focused on the decline in Michael Kors in their wholesale business, which was communicated on the prior call.
- Investors once again have a chance to buy CPRI at a ridiculously cheap valuation. At ~$48 per share, it is a gift and my most compelling idea and largest single position.
Capri Holdings (NYSE:CPRI) had been on my radar for a while, but I started to do a deep dive in late 2019. After looking at the historical financials and looking at the history and earnings calls, I bought a core position in early 2020. I first wrote about CPRI in March of 2020 as one of my top ideas to buy following the market melt-down following the initial COVID panic (Bullet-Proof Portfolio - Top 10 Ideas). I did a follow-up on my top 6 ideas, including CPRI, in July of 2020 (Part II - top 6 ideas). It still amazes me that CPRI traded into single digits in early April of 2020. This is a classic example of fear being overdone. The CPRI story is compelling and incredibly dislocated at $48 per share. It is worthwhile to look at this company in the context of the last few years.
After a period of pandemic induced turbulence, the stock appreciated strongly following 10 consecutive quarters of above expectation earnings results. CPRI was nearly a 10-bagger off of the pandemic lows in 2020 as it ran to the high $60s. The valuation multiple applied to those earnings, however, remained stubbornly low despite management's success in transforming the Company from a single brand offering built around Michael Kors, into a global luxury conglomerate incorporating higher growth brands Versace and Jimmy Choo. As the stock approached $70/share prior to reporting earnings with China still just starting to re-open and with increasing investor skepticism regarding the consumer, I wanted to wait to publish on CPRI until after the quarter was reported and investors had sufficient time to digest the results.
Indeed, the series of earnings beats ended with the quarter reported in early February, with weakness in the wholesale channel for Michael Kors driving disappointing margins despite revenues coming in-line with expectations. The stock dropped 28.5% intraday, finishing the day down 24%. Surprisingly, the drop in the stock was almost 3x the magnitude of the negative revision to earnings expectations (despite the contraction being exacerbated by proactive inventory reduction to protect Michael Kors' long-term brand health). It is also worth noting that the Company's valuation multiple before the dramatic selloff was already 50% lower than comparable companies.
I believe the earnings impact will prove temporary as inventories in the wholesale channel normalize. A silver lining in this adjustment is the likely additional sales mix movement away from the lower margin wholesale channel (down from 23% currently). While a sales miss in a consumer business typically drives investors to question the health of its underlying brands, I believe this is unwarranted for CPRI.
Sales in the Company's direct-to-consumer channel (where they control sales support) came in line with expectations, suggesting wholesale channel weakness was driven primarily by falling investment in sales support at wholesale partners who continue to lose share to direct sales channels.
Management has continued an aggressive stock buyback program, suggesting they agree with this assessment. Over the last five quarters, the Company spent $300 million per quarter on buybacks, a pace which equates to 20% of the outstanding shares per year. Management expects to continue buybacks at this rate in the current quarter. I think that at this price greater potential exists for management to increase the pace of the buyback, given modest financial leverage at CPRI.
With multiple inputs confirming the strength of the luxury market, I believe investors would do well to buy CPRI and PVH (PVH) on this pullback. Both have sold off significantly from recent highs, but the CPRI sell-off has been extreme. With reports from Macy's stating clearly that they have been seeing strength in their luxury segment, it is clear the upscale consumer is not slowing down. European companies have been indicating this strength as well. This link regarding Saks Luxury also indicates excellent strength within this segment (Saks Luxury - Strong).
For those investors who are looking for other smart investors to provide some assurance that the idea makes sense, famed investor David Einhorn of Greenlight Capital has CPRI listed in its top 10 holdings. Einhorn is coming off a huge year in 2022, in which they returned 36.6% net of fees and expenses.
The scarcity value of luxury brands continues to grow. Larger luxury houses' appetite for acquisitions at healthy valuations remains unsated. Estee Lauder recently announced an acquisition of Tom Ford. Applying similar acquisition multiples to CPRI's Versace and Jimmy Choo brands would imply a valuation of close to zero for the Michael Kors business.
I still estimate the Michael Kors business is worth north of $75 per share (quite a bit more than zero), applying a multiple consistent with its lower growth profile. Adding up these parts, I estimate Capri stock is worth north of $125/share today (versus $48/ share today). Thus, CPRI remains my top idea. I continue to like exposure to the upscale consumer, with CPRI and PVH.
This article was written by
Analyst’s Disclosure: I/we have a beneficial long position in the shares of CPRI either through stock ownership, options, or other derivatives. 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.
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