Here’s Why Coach Is Being Cited As A Potential Suitor For Stuart Weitzman

COH: Coach logo
COH
Coach

Coach (NYSE:COH) is navigating difficult times. The luxury company has seen its earnings and comparable store sales decline for the last six quarters. It has lost market share in the U.S. luxury hand bag space to new competitors like Michael Kors, Kate Spade, and Tory Burch. The shares of the company have declined by more than a third of their value through the course of this year. Moreover, the company does not expect its fortune to change any time soon. Coach has been undertaking a comprehensive restructuring of its brand image by transforming itself from an affordable luxury brand to a complete lifestyle brand. Through this period of plummeting market share and profitability, the company’s products priced above $400 have continued to do well. But these products contribute only about 20% to the company’s overall product base. Therefore, good performance in these categories is not enough to overcome the increased expenditure on re-branding, re-designing of stores, and the costs associated with the closure of under-performing stores. (See: The Real Reason Why Coach Has Been Struggling)

Brand Transformation Yet To Yield Dividends

Coach has changed its approach to products, stores and marketing, over the past few quarters. 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. The company managed to grow its men’s business to about $700 million in annual sales in fiscal 2014. [1] This means that the men’s business now contributes about 23% to the company’s overall revenues compared to about 15% in fiscal 2013. It needs to be noted, however, that the increase in penetration is only partly due to increasing sales of products designed especially for men: a large part of the increase in contribution is due to the overall decline in the company’s revenues. According to the company’s estimates, the global spend on men’s luxury wear is about $7 billion, which represents 18% of the total spend on luxury products. The figure is expected to increase at about a 10% rate in the next five years. [2]

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Additionally, Coach has been trying to increase the penetration of footwear products in its overall sales. The footwear line was relaunched in March in about 170 retail locations but its penetration over fiscal 2014 failed to increase from 12% in retail sales. [3] This is highly disappointing as the footwear segment represents a great opportunity for Coach to make up for its falling market share in the women’s handbags business and still keep its business equally profitable. Nevertheless, the company remains focused on building its market share within the highly fragmented global premium footwear category, which it estimates at about $25 billion. [3] Coach has been expanding its distribution of footwear to both international stores and wholesale outlets. It has also been trying to maximize the productivity of footwear to its overall business through a sales mix with increasing contribution of products with higher average unit prices(AUP).

Growth Through Takeovers

In this light, it is not surprising to hear of Coach being spoken as one of the possible contenders for the takeover of women’s luxury shoe company Stuart Weitzman. [4] Stuart Weitzman is a luxury footwear company that is expected to make about $300 million in revenues in 2014. It has been growing at a rate of around 15 to 20 percent for the past couple of years. [5] The company is vertically integrated with manufacturers and owns the factories where its shoes are made. This allows it set prices about 30 to 50 per cent below those of other luxury shoe makers. In addition to a low cost of production, the vertically integrated setup allows the company more flexibility with regard to production targets and quicker turn around times. This allows a company to quickly manufacture and ship a style that becomes popular in the market. The company owns 45 retail stores in the U.S. and 62 outside the U.S. The Financial Times speculated that valuations for the company are expected to come in around $600 million to $700 million. [5] Footwear company Brown Shoe Company and another Private Equity Firm are also rumored to be interested in the takeover.

If the acquisition is completed, Coach can expect to increase its revenues from footwear sales to increase by about 50% in the near term. That would amount to a 6% increase to the top line. With the following assumptions in place, the addition of Stuart Weitzman could add ~$2.3 billion to the market cap:

-If revenue increases by 15% for the next three years, 10% for the three years beyond that, and 5% beyond that,

-If we assume the same EBITDA margin (40%) that we are currently using for Coach’s valuation,

-If we assume the same tax rate (33%) and CapEx (5%) that we are currently using for Coach’s valuation.

This would mean an increase of 14% to the stock price.

See our complete analysis for Coach here

Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap
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Notes:
  1. Coach 8-K, SEC []
  2. Coach Q4 FY14 Earnings Call Transcript, Seeking Alpha, August 2014 []
  3. Coach Q4 FY14 Earnings Call Transcript, Seeking Alpha, August 2014 [] []
  4. Coach and Brown Shoe Company vie for Stuart Weitzman, Financial Times, December 2014 []
  5. Brown Shoe vying to buy Stuart Weitzman -sources, Reuters, December 2014 [] []