Before market 8/15/19, a FY4Q19 EPS beat ($0.61 vs. Cons $0.61), much worse than-expected Kate performance. Coach and SW were better than expected but the FY20 guide is pressure by an indefinite return to positive comps at Kate Spade and ongoing SGA investments. Capital allocation is the FY20 focus with TPR stating a pause in acquisition activity and focus on returning $700 million in dividends and share repurchase to investors. Sales, GM, SGA all missed expectations with buyback boosting EPS. Also worrisome is elevated inventory. The quarter in whole signals an uncertain turn in Kate Spade, QTD impact in Coach’s Hong Kong business (offset by a shift to Macau) and global uncertainty. Shares reacted down 22% on the day.
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2Q19 Promo Rating: “Flat;” 1Q19 Rating: “Flat.” Our 2Q19 Promo Score was slightly worse than 1Q19, with a score of 36 out of 100 (versus 37 out of 100 in 1Q19).
This custom model provides a template for calculating the impact of a 25% tariff on goods from China imported into the U.S. including average unit cost increase, margin hit in basis points, earnings reduction and average unit retail necessary to offset tariff impact.
Use our Tariff QuikCalc Model (click here) to quickly calculate the impact to a retailer's cost, margins, earnings, and, most importantly, to determine the percent increase in prices needed to offset the tariff. We have done this work for our coverage universe, but this is only a small sample of the retailers, vendors, and manufacturers impacted. Therefore, we developed a "quick and dirty" model to give you a general sense of the impact. For the average specialty retailer, we estimate an average unit cost increase of 4.2%, which if entirely unmitigated through price increases results in an average earnings reduction of 35%. The average unit price increase necessary to offset the higher tariff is 2.1%.
The April reading was the fourth consecutive month at 1 or the worst score possible. In April, 50% of retailers posted a short position >15% (up from 47.8% in March). We note the percentage of retailers with a short position over 15% continues to increase month-over-month. We rank Sector Sentiment on a scale of “1” being the most negative sentiment to “10” being the most positive sentiment. The basis for the ranking is based on the number of retailers in the sector with >15% short positions.
Before market 5/9/19, a FY3Q19 EPS beat ($0.42 vs. Cons $0.41, of which $0.02 was from taxes), better-than-expected Kate comp, and $1B buyback authorization – all on 52-week lows that set low expectations – sent shares up 9% in an otherwise red tape with the XRT -1%. GM beat, while SGA and OM missed, and EPS was aided by better taxes and modest buyback. Elevated inventory is explainable due to shipping delays from Asia. The quarter in whole was good, not great, but prospects of Kate turn and buyback boosted investor sentiment.
Our beginning-of-year upgrade of TPR was predicated on a late spring season turn at the Kate Spade brand, stabilizing Coach Outlet, and attractive risk/reward based on valuation. However, our checks during FY3Q19 and QTD FY4Q19 have suggested that there is a delayed response to the full-price new product platform at Kate Spade, and Coach Outlet remains challenged. A delayed turn is not unusual when a brand shifts to “full-price” on new product but is hindered by liquidation of legacy product. With legacy product ~70% of sales for FY3Q19 and 30% to 40% for FY4Q19, we push out the turn to the back half of the calendar year at the earliest. We prefer to see Kate Spade turn to positive comps on healthy margins; as such, we believe focusing on EBIT margin over comp is warranted. We also note that the Coach Outlet business remains highly promotional, pressuring margin. The company will host their FY3Q19 earnings call at 8:30am ET on 5/9/19 (877-510-8087; PW: 9287715).
During 4Q18, inventory risk continued to increase as sector inventory grew at a faster rate than sales. Given a macro backdrop that is no longer fueled by tax stimulus, we believe this is harbinger of margin pressure in FY19. Note that this is a snapshot entering 1Q19, so any top-line weakness in 1Q will result in even greater inventory excess. We expect this inventory risk to build progressively throughout FY19 as retailers try to “comp the comp” but lack pricing power and must simply drive unit volume to deliver positive comps. Simply put, sector wide business and performance risk has materially increased.
An Iconic Platform Launch. We recently visited the NYC Kate Spade flagship with TPR management, including EVP, President of Kate Spade North America and Head of Global Merchandising Emilia Fabricant; Interim CFO Andrea Resnick; VP Investor Relations Christina Colone; as well as members of the Kate Spade field and store organization. We came away with renewed conviction in the new Kate Spade platform launch (rather than simply a new product launch). Platform launches reposition a brand for the long-term. In this note, we showcase photos of the new product, which was made available in stores in early February. The story is about the forward merchandise under new creative director Nicola Glass. We estimate that by the end of March ~50% of the product will be new (accounting for ~25% of FY3Q19 sales) and will build to 100% new product by the end of June (accounting for ~75% of FY4Q19 sales).
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