Ralph Lauren: Main Supply Chain Challenges Ahead

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Ralph Lauren

Wholesale and retail are the two main business segments of Ralph Lauren (NYSE:RL), accounting for about 98% of its revenues. About 51% of the company’s revenue comes from the retail segment and the wholesale segment constitutes about 47%. Under the wholesale segment, apparel and accessories are sold at more than 11,000 doors globally, while Ralph Lauren operates around 500 retail outlets. [1]

The wholesale business’ contribution to overall revenues has been declining since 2008. It stood at 58% of total revenues in 2008 and 39% in 2013. On the other hand, the retail segment improved from 39% to 57% during the same period. In 2014, the trend reversed, but we think that this reversal is only temporary as the company has been making incremental investments in its retail division. We believe this trend to reverse again and end with wholesale’s contribution to come down to as low as 30%.

There are two reasons for this shift:

  • Ralph Lauren is planning for aggressive expansion in international markets, which will boost its retail business.
  • The department stores’ market share has been declining in the U.S. retail market and this is likely to continue. The increasing competition from private label brands at department stores is also a concern for retailers. With the increase in the share of private label brands, Ralph Lauren’s specialty stores and other department store revenues have been impacted. Other factors such as the discontinuation of American Living brand and consolidation of China network (to add retail stores) have also weighed on the wholesale segment’s growth.
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We believe the bargaining power of Ralph Lauren’s suppliers is low on account of a diverse supplier base. However, the bargaining power of certain wholesale customers such as Macy’s is fairly high. We expect the revenue growth for the company to be driven by increased sales in the wholesale and retail channels. However, we believe that retail channel sales growth will outpace the  revenue growth of other channels in the long run due to the ongoing expansion in the Direct-to-Consumer business.

Although revenue from the wholesale segment is likely to grow, we expect the growth to be slower than the retail segment. This will facilitate the decline of revenue contribution of the wholesale segment and an increase in the retail segment’s revenue contribution. With operating margins for the two segments roughly being the same, cash profits will witness a similar trend. This justifies the huge difference in valuation for the two segments.

 

See our complete analysis for Ralph Lauren

Suppliers Are Engaged To Manufacture Products

  • Ralph Lauren does not produce its own products. It engages more than 700 different manufacturers globally to produce its products.
  • No manufacturer accounted for over 4% of its total production in fiscal 2014. In addition, over 98% of its products (in dollar terms) in fiscal 2014 were manufactured outside the U.S. in the markets of Asia, Europe and Latin America. [2]
  • Both finished goods as well as raw materials inventories are sourced by the company.
  • We believe the supplier power is limited due to diverse supplier base; however, the increased costs of raw material and labor are usually shared by suppliers with the company through pricing.

Products Are Sold Through Different Channels Such As Retail, Wholesale and Licensing

The wholesale, retail and licensing channels accounted for approximately 47%, 51% and 2% of its net revenues in fiscal 2014 respectively.

Wholesale Channel

  • Sales to major department stores and specialty stores are included within wholesales sales. The three largest wholesale customers comprised for around 25% of the total net revenues in fiscal 2014, with Macy’s accounting for approximately 12% of the total net revenue.
  • We believe these three key wholesale customers could exert significant bargaining power and any problem at these wholesale accounts could represent a potential threat for RL.
  • We expect continued sales growth at the wholesale channel for RL over the long run owing to integration of previously licensed businesses, coupled with continued growth in Americas. Recovery in Europe will also boost sales at this segment.

Retail Channel

  • Ralph Lauren is making several investments to expand its retail channel, which includes directly operated stores and e-commerce sites. The company plans to open new Polo, Club Monaco and factory stores around the world.
  • It will also introduce e-commerce operations in Greater China and South East Asia in the coming year. We believe these accelerated investments will weigh on the company’s profitability in the short term. [3]
  • In Q1 fiscal 2015, RL’s retail sales growth was the main driver of overall revenue growth of the company. We believe the sales growth at this channel will outpace the overall revenue growth of the company in the future owing to planned expansion in this channel.

Licensing Operation

Licensing revenue, which constitute for a small portion of overall sales, is projected to decline in the future, due to the integration of previously licensed businesses and the company’s effort to enhance its direct-to-consumer business.

Our $177 price estimate for RL’s stock, represents near 5% upside to the current market price.

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Notes:
  1. Ralph Lauren Investor Relations []
  2. Ralph Lauren 10-K, SEC []
  3. Ralph Lauren Q1 2015 Results, Seeking Alpha, August 2014 []