- Rapidly growing business in a fast-growth market
- We love a growth story with a simple strategy
- Share repurchase programme yet to have an effect on shareholdings
- Currently quite expensive but we feel it is a compelling growth story
Michael Kors released it's Q3 results a little over a month ago and unbelievably, the market continues to punish a fabulous growth story.
KORS has grown it's bottom line ~33% and it's top line ~41% in a luxury goods market that is growing at roughly 13%. The business has continued to grow at an impressive clip and we believe this is down to the simplicity of it's growth strategy.
We love simplicity in a strategy... if you can digest the entire strategy in a 5 to 10 minute space and not have any burning questions, we feel the management team knows how to articulate strategy effectively. When this happens, you end up with a workforce that lives the strategy in their work because they understand what they need to do. From their annual report we can quickly understand their simple 5 point growth strategy:
- Increase brand awareness.
- Expand the number of stores in North America and Europe.
- Increase size and frequency of purchases.
- Align brand with up-market department stores and expand shop-in-shop footprint.
- Drive retail and wholesale business through continued leverage of existing operations.
I'm sure everyone will agree that this is beautifully simple and that we don't have to discuss any of these points in depth (see page 6/7 of the annual report to get more in-depth on these points). Mr. Kors' personal stock is trading high and his products are paraded by the global trend-setting elite. They plan to leverage this to drive 'new customer' growth while using the standard, basic retail levers to drive organic growth in their established markets.
The management team are forecasting mid-teen growth for the year and STRIDE feels this is accurate. We have our forecast growth pegged at just over 10%.
Shareholder value creation
The company has embarked on an interesting strategy of share repurchase instead of paying dividends. This has not been working for shareholders to-date as the company has taken 1.5% of shares off the table while seeing a 32% decline in the share price. While this is creating an improving picture - especially as it has been financed out of cash generated from operations - we feel shareholders would've preferred the dividend and that a dividend policy would've probably provided slightly better support to the falling share price.
What we like about the repurchase is that it has been at or around our fair value and that it has been funded from operations. What we don't like about it is that it seems to be having very little effect indeed.
As we'll go into in our valuation section, we feel that price has been around our fair value for the past few months but that this fair value is predicated on growth. While we see (and agree with) the growth story, I'm not sure I completely agree with management spending shareholder cash to buy back into their own growth story. It'll be interesting to see if this approach changes over time.
STRIDE scores for the business are looking pretty good. For more info on how the scores work, take a look at the scores and ratings video.
The strength rating is 94 and we can see that the Z-score reflects the safety and relative strength of this business. Liquidity and solvency ratios are all fantastic and the business is prudently run with a great net working capital / net current asset position.
The timing rating shows that the business is on the low-end of the stable rating - demonstrating how the share price has been punished by the market over the year.
The returns score is 100 and we can see that this is reflected in the Greenblatt rank / Magic Formula investing position. ROA of 33.64%, ROC of 58%, ROE of 45.53% - numbers that speak for themselves.
The intrinsic value score of 34 is low but still allows for entry and is to be expected with a retailer, with around 16c in every $1 being hard, tangible assets. The business is clearly not a book value / intrinsic asset value play.
The dividend score is 0 as they don't pay a dividend.
Earnings predictability is 100 - showing how this business has continued to grow the top, middle and bottom line figures at both an overall and per-share level. As always, past performance is not a guarantee of future performance, but it sure helps one feel more confident.
Our fair value comes in at ~$76. While the business looks expensive on a TTM basis, our forecast growth number of 10%+ coupled with the high scores received above allow us to paint a picture forward that still demonstrates value. We are seeking an $11 / 14.5% discount to our fair value as an entry / consider buy price to ensure an adequate margin of safety. Our consider sell price has been pushed up by the RISE factor - more on this in our detailed analysis video.
Income statement growth has been tremendous as depicted below.
The company continues to build shareholder equity and the balance sheet is evolving beautifully.
The cash flow also continues to evolve meaningfully. We feel the $337m in the financing column would better serve shareholders in the form of a dividend.
Currently, KORS is a hold for us due to timing. Beyond that, this is a fabulous business that looks set to grow into a retail powerhouse over the next few years. We are watching very closely for a rally in the share price and may have to pick this up slightly above our consider buy price if this happens in the next few weeks. If, however, it falls a little further before recovering, it may set itself up to be a near-perfect STRIDE 3D target.