ESLOF - EssilorLuxottica: Good Q3 But Still Too Expensive

Summary

• EssilorLuxottica surprises analysts by reporting Q3 2022 revenues of €6.40 billion versus the expected €6.02 billion.
• The weak euro continues to benefit European exporting companies such as EssilorLuxottica.
• Price multiples are still not low enough to justify a buy.

EssilorLuxottica (ESLOF) surprises analysts by reporting Q3 2022 revenues of €6.40 billion versus the expected €6.02 billion. The outlook for this quarterly is positive as there was revenue growth in every country, especially in the Asia-Pacific segment. The weak euro continues to benefit European exporting companies such as EssilorLuxottica and since the macroeconomic environment has not changed, I expect a Q4 with the same characteristics.

Highlights of Q3 2022

The wholesale (professional solutions) business compared to Q3 2021 achieved a growth of 17.50%, while retail (Direct to Consumer) business increased by 16.50%. In total, revenues increased by 17%. Overall, this is definitely a positive result considering the already dominant position EssilorLuxottica has in this market, however, an observation has to be made. If we were to disregard the benefits from the devaluation of the euro against major international currencies, the organic revenue growth over Q3 2021 would only be 8.20%, less than half. This last point is crucial, as we have to consider that such growth would hardly have been possible if the euro had not achieved a strong devaluation.

Considering the geographical origin of revenues, the previous discussion takes on even more importance. Since 47% of EssilorLuxottica's revenues come from North America, the weight of the dollar's appreciation against the euro took on a crucial role on the whole quarterly. Total growth in North America was 20.50%, but organic growth only 3.40%. The same observation can be made for revenues from Latin American, although it should be noted the weight in terms of total revenues is significantly less.

Wanting to extend the time horizon, we can see that the result of 9M 2022 compared to 9M 2021 is in line with the results of the last quarterly, but with 2 slight differences:

• Organic growth over 9M is 0.6% higher than that of Q3 2022
• Total growth over 9M is 1.50% lower than that of Q3 2022. This signals that the weight of the positive exchange rate impact has increased in the last period compared to the beginning of the year.

If we also extend the time horizon to the geographic origin of revenues, we can see something relevant especially in Asia-Pacific. We saw earlier that Q3 organic growth in Asia-Pacific is 22.70%, yet if we extend the time horizon to 9M we have only 8.80% growth. What are the reasons for such a divergence of growth in the same year? Here are the main ones according to the company:

Mainland China grew in the mid-teens as a consequence of fewer COVID-19 lockdowns redeeming the negative performance of the previous quarter. Fewer lockdowns made it possible for more stores to open.

• The lens business performed particularly well effectively leveraging its myopia management portfolio during the back-to-school season.
• The other countries of the region continued their growth trajectory with South-East Asia and Australia visibly improving.

Final Thoughts

Overall, I consider this quarterly to be positive because there was an organic growth of 8.20% over Q3 2021, which is not easy for an already market-leading company. The Asia-Pacific segment is starting to make up lost ground mainly due to the reduction of lockdowns in China, which is positive, but it should not be assumed that this trend cannot reverse itself in the following months. On the other hand, the component that causes me the most doubt is the exchange rate, a factor that is currently having a big impact on total growth not only for EssilorLuxottica but also for all European exporting companies. The EUR/USD exchange rate is at a 20-year low and is boosting exports especially in North America, but how long can this imbalance last? Can we consider the new norm a EUR/USD exchange rate below parity? No one can give an answer to this question, but I personally believe that as long as the Fed continues to raise interest rates more than the ECB, the situation will not change.

Finally, regarding the current valuation of EssilorLuxottica, my rating is a hold and it is supported by the price multiples that are still not low enough.

• The EV/EBITDA is 16.17x while the historical average for the past 10 years is 18.70x.
• The NTM Market Cap/ Free Cash Flow is 25.17x while the historical average of the last 10 years is 27.73x.

It is true that the current values are lower than the average, but they are still far from the historical lows of 11.13x and 18.79x, respectively. Buying this company when its multiples are just below the historical average does not provide me with a sufficient margin of safety.

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