Coach Earnings: North America Weakness Hides Gains Made In China, Men’s Business

COH: Coach logo
COH
Coach

Coach (NYSE:COH), a leading American marketer of luxury handbags and other fashion accessories, posted lackluster results in Q3 fiscal 2014, and saw its shares drop by about 10% since the earnings announcement. [1]

Coach’s sales in North America dropped by 18% in Q3 fiscal 2014, with a  21% fall in comparable store sales.  [2] Significant decline in North American sales was enough to offset the gains made by Coach in its men’s, footwear and international businesses. North America contributes around two-third of Coach’s sales, and the company has been losing market share to competitors like Michael Kors, Kate Spade and Tory Burch over consecutive quarters. We believe Coach will continue to struggle in the North American market in the near future due to increased competition. [3]

We are in the process of revising our $59.50 price estimate for Coach’s stock to incorporate the changes due to the latest quarterly earnings.

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Coach’s Transformation Strategy Still Not Fully Effective

Over the past few quarters, Coach has changed its approach to products, stores and marketing. The company is moving from its core competency of women’s handbags to becoming a dual-gender lifestyle brand. Additionally, Coach has decided to leverage its brand name and expand into footwear, accessories, apparel, jewelry and eye wear categories. Coach’s Men’s Business represented 15% of the company’s global sales this quarter. The company also expanded the distribution of its footwear considerably in international markets. [3]

Coach has also decided to change the look and feel of its stores to be more in sync with its new brand image. To this end, the company announced a partnership with Studio Sofield. They plan to work with William Sofield over the coming quarters to make sure the store experience accurately reflects the company’s multi-category merchandizing. [4] The company has also changed its marketing campaigns to come across as a dual-gender lifestyle brand as opposed to a brand focused on selling handbags to women. However, Coach’s financial performance hasn’t yet been able to capture the effects of this transformational strategy. We will have to wait a few more quarters to see if this change in brand strategy is successful in revivifying the Coach brand. [5]

International Business Represents Long-Term Growth Driver

Coach’s international sales rose by 20% in constant dollar terms to reach $441 million from $385 million last year. China continues to be a sweet spot for the company as sales grew by over 25% in the region, driven by increased distribution and double digit comparable stores sales growth. The company has major expansion plans in China as it expects to grow its square footage by around 25% in the region during the fiscal year. It also forecasts sales to grow by more than 20% in China during the entire fiscal year.  Coach’s sales in the other Asian markets of Korea, Taiwan, Malaysia and Singapore also continued to grow at a strong double-digit rate for the quarter with comparable store sales gains.

In Japan, the company realized a 10% increase in constant currency terms due in large part to a surge in demand related to the April consumption tax increase. However, dollar sales declined 2% reflecting the weaker yen. In Q4, we expect a reversal of this trend which should bring the annual sales back in line with first half trends.

Coach also aims to grow its distributor-run business in Latin America, other Asia-Pacific countries (Australia, Thailand and Indonesia) and in the Middle East. Due to these measures, we think the proportion of international sales in Coach’s overall sales will increase in the future. [6]

North America Disappoints Again

Total revenues in North America fell by 18% for the quarter with a decline in same store sales of 21%. The company management attributed this decline to the overall retail slowdown from weather and the Easter shift. We think that some of the decline is attributable to the overall slowdown in retail spending but some of the decline is of a piece with the poor performance of Coach’s women’s handbags and accessories business over the last few quarters.

While in the recent past, the company has been able to minimize the impact of slowing in-store traffic through internet sales, its online business did not contribute positively to overall North America sales this quarter. Year-on-year comparisons suffered due to the strategic decisions to eliminate third-party flash events in fiscal 2014 and limit the access and invitations to its factory flash site. [3]

Coach’s higher priced products exhibited strength as the above $400 price bucket grew in penetration and represented 21% of handbag sales, with products priced $600 and higher performing the best. However, it is clear that the performance of the company’s $200-$400 products continues to suffer. The penetration of Coach’s footwear products rose from 6% to 8% this quarter, in about 174 retail locations. However, this is still too small a contributor to the overall assortment of products offered by the company and growth in this segment cannot offset the decline in the company’s core products. [3]

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Notes:
  1. Coach Sliding After North American Comparable Sales Plunge 21%, Forbes, April 2014 []
  2. Coach Reports Third Quarter Earnings of $0.68, Seeking Alpha, April 2014 []
  3. Coach Q3 FY14 Earnings Call Transcript, Seeking Alpha, April 2014 [] [] [] []
  4. Coach’s New New York Stores []
  5. Coach To Partner With Studio Sofield For New Store Concept, Yahoo Finance, April 2014 []
  6. Coach Q2 FY14 Earnings Call Transcript []