Earnings Review: Retail Segment Gains Allow Ralph Lauren To Post Modest Topline Growth

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RL: Ralph Lauren logo
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Ralph Lauren

Luxury lifestyle company, Ralph Lauren (NYSE:RL), posted better-than-expected earnings in the first quarter of fiscal 2015. The retailer posted year-on-year net revenue growth of 3.4% for the quarter, helped by a double-digit sales expansion in international sales and e-commerce business. [1] Operating margin was 240 basis points below last year’s at 14.3%, but still higher than guided for by the company. Due to the timing of payments related to incremental investments in growth initiatives, the company was expecting a lower margin but operational discipline and the favorable impact of currency fluctuations helped it achieve a better margin. ((Ralph Lauren Q1 FY15  Earnings Call Transcript, Seeking Alpha, August 2014)) Despite the challenges faced by the company’s wholesale segment over the quarter and the weak retail environment in the U.S., RL kept its guidance for fiscal 2015 unchanged. The company still expects to grow its revenue by about 6-8% for the full year on the back of store expansion, e-commerce operations and investments to support the launch of the Women’s Polo line.

We believe that the company’s revenue growth can accelerate going forward, benefiting from a variety of growth strategies we discuss below. We also expect the company’s profitability to improve over long term, as investments in these growth strategies bear fruit. Efficiencies gained through the improvement of its management information systems should contribute as well.

See our complete analysis for Ralph Lauren

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Retail Sales Outperform Wholesale as Expected

Retail sales increased by 9% during Q1 fiscal 2015, driven by double-digit growth in international operations and e-commerce business, and global store expansion. ((Ralph Lauren Q1 FY15  Earnings Call Transcript, Seeking Alpha, August 2014)) North America retail operations were negatively affected by the cold and late start to spring and the Easter shift from March to April, which caused traffic to decline during the quarter. However, double-digit growth in European and Asian retail sales was strong enough to offset the losses in North America. Retail segment operating income was $168 million in the first quarter, $3 million higher than in the first quarter last year and the retail operating margin was 17.5%, 130 basis points lower than the year before reflecting the costs associated with the development of international stores and newly transitioned operations.  ((Ralph Lauren Q1 FY15  Earnings Call Transcript, Seeking Alpha, August 2014))

Wholesale revenues fell by 4% to $708 million. This decline was due to a shift in the size of shipments between the last quarter and this one, slightly offset by the incremental revenues added by the Chaps menswear operations. Combining wholesale revenues for the last two quarters, wholesale revenue increased by 10%, reflecting the strong momentum generated by RL in North America and a return to profitability in Europe. Profitability also suffered in this segment over the quarter as operating margin was down 260 basis points due to the fixed costs associated with shipments and unfavorable impact of currency fluctuations. ((Ralph Lauren Q1 FY15  Earnings Call Transcript, Seeking Alpha, August 2014))

Future Growth Drivers

Looking ahead, RL remains committed to three key initiatives that it believes will drive sales and profits over the next three to five years.

  • The company has intensified the development of its Polo brand. Currently, 60% of the sales made by the company are in its men’s business, the reverse of the usual industry trend where sales are skewed towards women. During fiscal 2014, the company created Polo for women, which it expects to replace the existing Blue Label line for women. Therefore, the sales made from this switch will not be completely incremental. However, in the longer term the company expects the Polo brand to address a much broader market than the Blue Label line. Additionally, the retailer is still in the early stages of executing the expansion of its Polo stores worldwide. It operates 13 Polo stores currently, with plans of opening 15 to 20 more in fiscal 2015. Over the long term, the company believes there is an opportunity to have between 100 and 200 Polo stores worldwide, with significant concentration in international markets. [2]
  • The second initiative involves the development of the e-commerce segment. In fiscal 2014, e-commerce brought $500 million in revenues. Based on the high growth and the profit creative dynamics of the channel, the retailer will continue investing in this space. At present, the company’s e-commerce operations behave very differently in different geographies. In the U.S., the management pointed out that if a consumer switches from shopping at a brick-and-mortar store to online, it is profitable for the company. However, the company’s e-commerce operations are only starting to achieve scale in Europe. RL will need to make further investments in its European e-commerce business to reach the same level of profitability as in the U.S. Meanwhile, it’s only just launched the e-commerce business in Asia. The company currently operates in Japan and Korea, with investments still ongoing to bring operations online in Greater China and Southeast Asia. ((Ralph Lauren Q1 FY15  Earnings Call Transcript, Seeking Alpha, August 2014))
  • The third initiative involves accessories in general and leather goods in particular. The retailer converted footwear from a licensed to owned segment in 2006 and re-opened operations in 2008. At the same time, the company gained direct control of its licensed handbags and small leather goods business. Since then, the leather goods category has grown at an average of 20% annually. Currently, handbags, footwear and leather goods represent less than 10% of total consolidated sales. The company has stated that it wants to grow this category to about 20% of the top-line, which should favorable margin implications as it is a higher margin category than apparel.

We are in the process of revising our price estimate for Polo Ralph Lauren, which stands at $174, implying a premium of around 17% to the market price.

Notes:
  1. Polo Ralph Lauren Investor Relations SEC Filings []
  2. Ralph Lauren’s Q4 2014 Results Earnings Call, Seeking Alpha, May 2014 []