Revenue Slide Expected To Continue For Ralph Lauren In Its Third Quarter

Ralph Lauren (NYSE:RL) is scheduled to report its third quarter (ended December 2016) earnings on February 2, 2017. The last quarter earnings delivered a positive surprise of over 11%. While the company has a strong earnings surprise history, the guidance provided for the third quarter, as well as for the full year, has been soft. Accordingly, the revenue and EPS are expected to decline by 12.3% and 27.8%, respectively.

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The revenue growth for the company has fallen from a healthy 7% in FY 2014, to 2.2% in FY 2015, and further to a negative 2.8% in FY 2016, which ended in March. The main reasons for the company’s poor performance in recent times has been a result of a decline in department store sales, the rise of fast fashion retailers, and the company’s own out of date supply chain model. The company’s focus itself was diluted with numerous brands and a multitude of initiatives. This was recognized by CEO Larsson, who listed the steps being undertaken by the company to overcome such problems, which includes the closing down of its underperforming stores, rightsizing of the organization, streamlining the supply chain, and a greater focus on its three core brands – Polo, Ralph Lauren, and Lauren.

In this regard, the company has made an effort to improve the quality of sales by moderating discounting activities, tightening inventory buys, and the closure of another seven underperforming stores in the second quarter. Such initiatives have resulted in a reduction in inventories by 15%. In the international markets, Ralph Lauren’s revenue increased 2% in the second quarter, driven by improving quality of sales, right-sizing of the inventory, and optimization of the store count. In Asia, over the last nine months (till September 2016), the company has closed 72 points of distribution which were deemed to have weakened the brand, while at the same time RL has also opened 159 new high-quality points of sale, at better locations, and with refreshed store environments. Reducing the length of sales periods and decreasing the depth of markdowns have resulted in the average unit retail prices to be up 10% in constant currency, and improved gross margins.

Another important step taken by the company in the second quarter was to discontinue the Denim & Supply brand, in line with the company’s efforts to focus on its core brands. The company will now be able to address the denim market more effectively through its Polo brand. The company is also working towards cutting down on unproductive styles, leading to a massive reduction in the number of SKUs (Stock Keeping Units). For fall 2016, the company achieved a 10% reduction in SKUs, and remains on track to achieve an over 20% reduction for spring 2017. This will help the company to refocus its resources and creativity on its core brands. CEO Stefan Larsson also stated that the company expects to be halfway to its goal of a nine-month lead time by the end of the fiscal year, and 90% there by the end of the next fiscal year.

While these steps being undertaken will result in a turnaround for the company in the future, it has negatively impacted the results in the short term. For the third quarter, the company expects the net revenues to be down low-double digits to down low-teens on a reported basis, with the continued execution of quality of sales initiatives, inventory receipt reductions, and fleet optimization, consistent with the Way Forward plan. While foreign currency is not expected to have much of an impact on the revenue, it will pressure the gross margins by at least 120 basis points, as per company estimates. However, the dollar seems to have risen higher than expectations, and may affect the revenue more than the company predicted. Since the beginning of October, the Dollar Index has risen by more than 5%, with the Euro losing almost 5% of its value against the Dollar, and the Japanese Yen declining by an even larger amount of 12%. This may hit the earnings of the company.

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