Ralph Lauren (NYSE:RL) achieved revenue of more than $6.9 billion in 2012. Revenue growth dipped to 4% in 2012 from 20% in 2011 and 14% in 2010 on account of store closures associated with restructuring in Asia, the discontinuation of the American Living brand, macro-economic weakness in Europe and unfavorable currency impact.
We expect sales growth to accelerate in the future on Ralph Lauren’s strategic initiatives and a more comparable base as the company laps the discontinuation of its several businesses in the future. Expanding into Asia (particularly China) and new product categories (such as accessories) are some of the key growth drivers. Moreover, the company is growing its direct-to-consumer business, which could enhance profitability in the long run.
Our near $190 price estimate for Ralph Lauren’s stock represents around 10-15% upside to the current market price.
Key Drivers For Ralph Lauren’s Business
Strong Growth In The Americas Region
The Americas region, which accounts for more than 65% of Ralph Lauren’s sales, continues to be a growth market for the company despite macro headwinds in the region. Sales in the Americas rose by 5.4% annually during the first nine months of fiscal 2013 despite tougher comps due to the discontinuation of the American Living brand (which was exclusively sold via JCPenney). The growth was broad-based with high demand at various sales channels including factory stores, wholesales stores, Club Monaco and e-commerce sites.
Ralph Lauren’s strong brand identity and its ability to provide appealing products at a wide range of price points from discount (Chaps) to luxury (Ralph Lauren Collection) have contributed to its strong performance in the region. According to Bain & Company, America’s personal luxury goods market rose by an estimated 13% in 2012 to reach €65 billion ($85.2 billion), and we expect continued growth in this market to positively impact Ralph Lauren. 
Recovery In The European Market
While Ralph Lauren’s European sales (which account for around 20% of its total sales) witnessed some weakness during the first six months of fiscal 2013 on account of difficult macro economic conditions, Q3 2013 showed some improving signs. Sales grew by 8% annually in constant currency in Q3 driven by higher retail sales. We think the return to sales growth in Europe is an encouraging trend.
In contrast to the economic problems in the region, the luxury market in Europe is growing driven by luxury demand from tourists from countries such as China, Russia, the Middle East, Brazil, etc. The European personal luxury goods market grew by 10% and 5% (estimated) in 2011 and 2012 respectively, according to Bain & Company. 
Chinese consumers are the key driving force behind Europe’s luxury market as they account for around 30% of industry-wide luxury sales in the region. Chinese tourists account for less than 2% of RL’s European sales showing clear room for improvement. We believe this proportion could rise in the future as the company is taking steps to elevate its brand image in China.
Expansion In Asia
Expansion into Asia, particularly China, represents a key growth strategy for Ralph Lauren as the luxury market is growing rapidly in the region. The share of Chinese shoppers in the global luxury spending has grown from a mere 1% in 1995 to 27% in 2012, according to McKinsey & Company.  As part of its restructuring in Asia, Ralph Lauren had closed down a significant part of its old distributor network in China to replace them with high-end stores along other leading fashion brands to elevate its brand image in the country.
We expect these efforts to show results in the long run and bolster Ralph Lauren’s sales not only in China, but also in Europe and the U.S. where Chinese tourists account for a significant proportion of industry-wide luxury sales.
Growing Direct-to-Consumer Business
The growing direct-to-consumer business also augurs well for Ralph Lauren’s outlook as this channel provides higher gross margin compared to the wholesale channel. The company is working towards increasing its direct-to-consumer sales by opening more company-owned stores, e-commerce sites, and converting its former licensing businesses into company-owned operations. It added 36 new factory stores during the last three fiscal years.
Ralph Lauren is focusing on the e-commerce channel by opening more e-commerce sites globally. The company recently started providing e-commerce operations in Italy, Greece, Spain and Portugal. Moreover, new e-commerce sites are expected to be opened in Korea and China in the near future.
The proportion of direct-to-consumer sales in overall revenues rose from 46% in 2009 to 52% in 2012. We expect this share to grow in the future, which will also have a positive impact on its profitability.
Emerging Product Categories Could Drive Future Growth
Growth in emerging product categories such as Denim & Supply and accessories (which includes handbags and small leather goods) represent other avenues for Ralph Lauren to grow its revenues. Accessories are an important product category in the luxury market with leather goods sales accounting for around 16% of the overall global luxury market, according to Bain & Company. 
We believe Ralph Lauren can leverage its strong brand image to enhance its market share in these product categories. The company is taking steps in this direction by expanding distribution of these products and increasing their presence across stores and e-commerce sites globally.
While many of the above mentioned trends mainly affect Ralph Lauren’s top-line, its profitability is also growing, making us more optimistic on the company’s outlook. Its gross margin and operating margin expanded by 220 basis points and 150 basis points annually in Q3 2013, respectively, driven by lower input costs, a favorable sales mix and better expense management. Operating margins increased at both wholesale and retail channels and are further expected to increase in the near future. Notes:
- Bain projects global luxury goods market will grow overall by 10% in 2012, though major structural shifts in market emerge, Bain & Company, October 15, 2012 [↩] [↩] [↩]
- Chinese shoppers ‘biggest spenders on luxury goods’, South China Morning Post, December 13, 2012 [↩]
- Ralph Lauren Management Discusses Q3 2013 Results – Earnings Call Transcript, Seeking Alpha, February 6, 2013 [↩]