a promising 1Q13 for Tiffany (TIF)

my bottom line on the stock

I no longer hold TIF.  Great company, expensive stock (the current 22x fiscal 2013 eps is at the high end of the company’s historical PE range).  Also, thematically, I’d prefer to get Consumer Discretionary exposure through firms that cater to average Americans, the segment where I think spreading economic rebound will bring the best year-on-year earnings gains, rather than the affluent.

Nevertheless,

TIF is an important bellwether

for how the wealthy, foreign tourists and China are feeling. So the results are well worth monitoring.   All three  groups appear to be starting to come out of their recent spending funk.

April quarter results

Tiffany reported 1Q13 (ended April) results before the bell yesterday.  They were surprisingly good.  Worldwide sales were up by 9%, yoy.  Eps came in at $.70, also up 9% over the $.64 posted in the year-ago quarter.

The figures were massively better than the consensus estimate of Wall Street analysts, who had penciled in $.52 for the April period.  This is also the first quarter in the past five where yoy earnings gains have been significant.  And 1Q13 exceeded the previous high water mark for the first quarter of $.67 a share set in 2011.  Good news.

all regions looking up

Here are TIF’s yoy sales gains by region:

US          +6% in 1Q13   vs    +2% in 4Q12

Asia Pacific          +15%   vs     +13%

Japan          +2%    vs     -6%

Europe          +6%     vs      +3%

Total         +9%  in 1Q13     vs.     +4% in 4Q12

a dividend increase

Two weeks before the earnings report TIF’s board increased the quarterly per share dividend from $.32 to $.34.  On the one hand, the rise comes at the normal time of year for TIF.  And the bump up is smaller than 2012’s.  On the other, if we make the reasonable (to me, anyway) assumption that the board of directors is targeting a payout of 25% of cash flow and/or a third of profits, the dividend increase signals there’s still upside to the Wall Street consensus.

More important, the board is comfortable that business is improving.

Tiffany (TIF) reports so-so 4Q12 earnings

the results

Before the opening bell this morning on Wall Street, TIF reported 4Q12 (the company’s fiscal year ends in January) results.  Sales were up 4% year on year during the quarter, at $1.2 billion.  Net earnings were up 1% yoy, at $180 million.  That works out to eps of $1.40, vs. the $1.39 reported for 4Q11.  But it was $.04 above the brokerage house consensus of $1.36.

For the full year, sales were up 4% at $3.8 billion.  Net income was $416 million, down from $465 million in fiscal 2011.

In its earnings release, TIF also gave its first guidance for fiscal 2013.  It expects sales to be up by 6%-8% and eps to move roughly in line–but possibly with a touch of positive operating leverage evident later in the year.  1Q13 will be relatively weak (TIF fingers marketing costs and high raw material prices as the culprits), but earnings comparisons will likely improve from then on.

As I’m writing this, shortly after the open, TIF shares are up almost 3% in a market that’s up by about half a percent.

I don’t see why.

my take

TIF is an exceptionally well-managed company with a powerful brand name in the Americas and the Pacific, and in a business, luxury goods, that has strong long-term growth prospects.

This is the first time in five quarters that TIF results have exceeded the Wall Street consensus.  That’s a plus, although the “beat” is at least partly due to analysts’ low-balling their estimates after having whiffed four quarters in a row.

Management guidance of 6%-9% eps growth for fiscal 2013 is also a low-ball number, in my view.  I think +10% is easily attainable but believing in +15% would be a stretch.

my issue is valuation

I’ve owned the stock in the past but don’t now. Based on management guidance, the stock is trading at 20x year-ahead earnings, which is about as high as the PE has gotten over the past decade.

–Yes, there have been short periods when the multiple has spiked higher, but who wants to count on this happening again.

–Yes, there may be another, say, 5% to count on in the stock as earnings come in better than guidance.  But a professional investor should be looking for the potential +30%s and the +50%.  There’s just not enough upside here.

–Yes, there’s recurring speculation that some EU luxury conglomerate may buy TIF.  But, again, is this enough of an investment thesis?  In my view, no.  If the stock were trading at 15x earnings, however, it would be a different story.

what catches my eye in the release

TIF still doesn’t have its balance sheet completely back under control.  A while ago, when world economic prospects looked brighter, TIF decided to boost its inventories significantly.  That was so as not to lose sales for lack of stuff to sell, as well as to support a quickened store expansion plan.    …an aggressive, but very sensible strategy.

As global growth started to fade, TIF put on the manufacturing brakes.  But at 1/31/13, inventories were still $161 million higher than a year earlier.  And debt, net of cash, was up by $176 million.  That’s the reason, I think, why TIF bought back no stock during 4Q12, despite the fact the shares spent much of December in the mid-high $50s–vs. TIF’s full-year average buyback price of $66.54.

Comparable store sales in the Pacific, ex Japan and ex currency effects, were +6% for 4Q12.  I interpret this figure as saying sales there, which I view as the key factor that could make fiscal 2013 surprisingly good for TIF, have passed their low point.  TIF is penciling in a “mid-teens” total sales increase for the region–implying, I think, +10% for comparable store sales.  In a better Chinese economy and with clarification of the new government’s view on luxury goods consumption, that figure may be way too low.   If there’s one thing TIF bulls should monitor, this is it.  If there’s one thing that could change my mind about the stock, this is it.

luxury goods companies, including Apple: changes in the wind

background

Luxury goods customers fall into two camps:  the truly wealthy, and aspirational buyers.

The difference is this:

For the truly wealthy, price isn’t a determinant of what they buy.  The truly wealthy choose, say, a Bentley rather than a Hyundai because they like the way the motor sounds or because the seats are comfortable, or because it’s what they’ve always bought.  The fact that the Bentley costs 5x+ what the most expensive Hyundai sells for makes no difference.  Why?  It’s because the amount of money involved is–for them–insignificant.  It’s the same as the choice  between buying a so-so $5 t-shirt vs. a cooler $15 one as a travel souvenir might be for most of us.

Aspirational buyers, in contrast, are conscious of the price they’re paying.  And it may well be more than they can really afford.  But they buy the luxury brand anyway, as a way of announcing to the world that they have the wealth, or good taste or high social standing they aspire to.

For luxury goods companies, the wealthy remain steady customers through thick and thin.  Aspirational purchases ebb and flow with the economic cycle.

what’s happening today

By the way, Chinese customers, who have been avid buyers of most American and European luxury goods are beginning to turn to their own domestic brands.  I’m not sure how to make money from this, so for now it’s only an (interesting, I think) observation.

In the US, even as the economy continues to plod ahead–and evidence is accumulating that it may be shifting into a higher gear–aspirational buyers appear to be spending less on luxury goods rather than more.  Not so good for luxury goods companies, as we’ve seen in recent earnings reports from TIF, COH and AAPL.

But the more important investment question is:

–given that the aspirational buyer will have more money this year than last, and

–given that his largest source of wealth, his house, is starting to rise in value after five years in the doldrums,

where is he now spending his discretionary income?

I don’t know for sure.  If you have any ideas, please post a comment.

My preliminary guess is that aspirational buyers are doing home renovations and buying furniture.  This is what usually happens at the very start of an economic upturn, where Americans typically buy a house in year one and divert a lot of their income to fixing it up in year two.

Vacations?

At any rate, recent earnings reports from luxury goods companies seem to me to be another sign that the market pattern of focusing on companies that cater to the wealthy as hotspots of growth is over.

 

 

 

a weak 3Q12 for Tiffany (TIF)

the results

Before the New York open on November 29th, TIF announced 3Q12 earnings results (the company’s fiscal quarter ended October 31st).  Sales were up 4% year on year.   Profits for the three months, however,  were down 30% yoy at $63 million, or $.49 per share–lower than the company had guided to during its 2Q12 conference call.  TIF also revised down its expectations for the full fiscal year to eps of $3.20-$3.40 vs. its prior guidance of $3.55 – $3.70.

What’s behind the earnings miss?

Business was better than expected in Europe and Japan. It was so-so in Asia-Pacific—comparable store sales down 4% yoy—but in line with management’s view. In the US, however, which still comprises about half the company, sales weren’t as good as TIF had expected.

Not only that, but product mix was a problem. Purchases of items costing over $500 each held up well. Sales of less expensive silver jewelry, however, flagged. And they carry higher margins at the moment.

 How can sales be up and profits still fall by almost a third?

As I interpret TIF’s actions in preparing for 2012, the company expected a sales advance for the year of around 10%. So it increased sales space and added staff with that kind of increase in mind. Those extra costs are now acting against the company (negative operating leverage) because sales aren’t yet high enough to absorb them fully.  That cost the company about $6 million in operating profit in 3Q12, I think.  More important,

TIF also build its inventories aggressively. The fundamental choice a firm makes is between:  do I keep inventories small and risk losing sales?  …or do I keep the shelves full, at the risk of having too much?  Based on its sales forecast, TIF picked the second.

In addition, in carrying out its strategy TIF appears to have acquired or made goods containing gold when the yellow metal’s price was relatively high. That decision has two consequences that have also turned into temporary negatives. Because their costs are high, those pieces carry lower gross profit margins than TIF has shown in recent quarters. This wouldn’t be a big deal if sales were growing as rapidly as TIF thought. Better to lose a couple of points of margin on a necklace or ring rather than have a customer walk out empty-handed because there’s no merchandise in the store. But when sales are slow, as they are now, lower-margin merchandise can end up being a big chunk of sales for an entire quarter or two.  As I reckon it, this cost the company about $30 million in operating profit in 3Q12.

At some point, however, maybe in 4Q12 or 1Q13, TIF will have sold all these items and gross margins should rebound.

Finally, to carry out all its plans and still continue to buy back its stock, TIF’s debt has gone up by about $250 million yoy.  Interest expense is $4 million higher in 3Q12 than in 3Q11, as a result.

Do TIF’s quarterly earnings matter at this point?

Yes and no. The stock dropped by about 10% in the pre-market Thursday before rebounding to close down 6% or so. To my mind, that’s not much of a negative reaction, considering how big the earnings shortfall was vs. expectations and how strongly the stock has performed in recent months.

To my mind, investors have clearly been betting that we’re at or near a business cycle low point for high-end jewelry sales. They’re buying TIF in anticipation of a significant upturn in profits. For these investors, the overall story is still intact. Their timing may have been a bit off, but they’re not worried.  And, in my view, TIF’s management didn’t do anything crazy.  It carried out an intelligent plan for 2012 that’s been undermined by a weaker than expected world economy.

On the other hand, I suspect it will be difficult for the stock to advance from the present level without the company demonstrating that the low point is behind it.

One other note: it seems to me that the area of concern for Wall Street based on 3Q12 results can’t be China, even though sales there were down yoy. Why do I say that? Chow Tai Fook Jewellery, which caters solely to the China market, was up 4% overnight in Hong Kong.

11th Annual Bain Luxury Goods Worldwide Market Study, October 2012 (iii): market structure

Yesterday I wrote about long-term trends in the personal luxury goods industry, as seen by the Bain Luxury Goods study.  The prior day, Monday, the topic was short-term revenue growth prospects.

Today’s post will deal with the responses by luxury goods firms to the development of the global market for their products.  I’ll close with Bain’s estimates of the size of the personal luxury goods market in the context of the market for all luxury goods.

continuing slow vertical integration

The traditional model for luxury goods companies has been to design and manufacture their products and sell them at wholesale to third-party retailers, like department stores or multi-brand specialty retailers (think, e.g.: jewelry stores).

The virtues of this way of doing business are:

–it’s simple and

–the time that company cash is tied up in inventory is, under most circumstances, the shortest.  So its financing needs are the least.

Over the past decade or so, however, luxury goods firms have been entering retail themselves by opening free-standing stores of their own or company-owned boutiques in department stores.  Where necessary to do so, they’ve also been buying back territorial distribution rights they had previously granted to third parties.

The rate of change toward vertical integration is slow, but steady, at the rate of about a 1% increase in market share per year.  Currently, luxury goods’ distribution is still predominantly wholesale, with 30% through company-owned retail channels.

Why the shift?

After all, going all the way to the retail customer requires a much more complex company organization and a lot more capital to meet the heavy extra expense of building and keeping up a store network.  At the same time, a firm’s existing wholesale customers can scarcely be thrilled to see the luxury goods company entering into direct competition with them.

Several reasons:

–the price markup from wholesale to retail for luxury goods is immense

–the company has much better, and more current, information about customers, sales trends and inventories if it has a retail operation

–it has much better control over the brand message and the customer experience

–the company has the opportunity to make the customer its client, rather than the department store’s, thereby increasing the size and frequency of purchases.

single brand vs. conglomerate, private vs. public ownership

the rise of luxury conglomerates

In 1995, according to Bain, a majority (55%) of personal luxury goods sales were of products made by a single-brand company.  The rest came from multi-brand groups.

Today, in contrast, sales by multi-brand groups are double the size of those of their single-brand counterparts, which account for only a bit more than a third of industry revenues.

…and publicly owned firms

In 1995 companies that had raised expansion capital in the stock market represented only 30% of luxury goods revenues.  The vast majority of sales were by privately held firms, mostly family owned.

Today, those proportions are reversed.  Only 30% of industry sales come from traditional privately held companies.  Firms representing 65% of total revenues are publicly traded.  Private equity and sovereign wealth funds hold the other 5%.

The reasons behind this transformation are a bit more complex.  They include:

–the massive rise in world GDP over the past few decades that has made the luxury goods market accessible to many more consumers.  According to Bain, the personal luxury goods market has almost tripled in size since 1995

–the development of supply chain software, which makes the management control task more manageable

–revival of once moribund businesses through modern management techniques–Gucci, Tiffany, Coach are names that immediately come to mind, which has attracted capital to the industry

–often a diffuse group of second- and third-generation owners of a private firm would prefer to cash out rather than remain involved in the family business.

where the personal luxury goods industry stands in overall luxury spending

According to Bain, global luxury spending breaks out as follows:

luxury cars    €290 billion, up 4% from 2011

personal luxury goods     €212 billion, up 10%

luxury hospitality     €127 billion, up 18%

luxury wines/spirits     €52 billion, up 12%    (no beer?)

luxury food     €38 billion, up 8%

design furniture     €18 billion, up 3%

luxury yachts     €7 billion, up 2%

Total     ~ €750 billion

Note:  in the food and beverage category, Bain detects a trend toward in-home consumption rather than in restaurants.  Apparently even the wealthy need to economize somewhere.