RL - Ralph Lauren And Its Next Great Chapter Plan

2023-04-25 07:28:46 ET

Summary

• Inflationary pressures create challenges for companies in the consumer discretionary sector to maintain pricing power.
• Ralph Lauren's success in redefining its brand has enabled it to maintain relevance and stay ahead of the competition in an ever-changing market.
• Expansion in the global market can sustain EPS growth, and future margin expansion may boost stock valuation.

Investment Thesis

Inflationary pressures have created a promotional environment within the consumer discretionary sector, creating challenges for the companies in the sector to maintain their pricing power.

Ralph Lauren Corporation (RL) has a proven track record of redefining its brand and consistently increasing its AUR, demonstrating its ability to adapt to changing market conditions. Moreover, the company's share repurchase program can provide downside protection for investors.

The company's expansion in the global market can sustain ongoing EPS growth, while future margin expansion may act as a catalyst for higher stock valuation multiples. In short, the company's strategic initiatives and strong pricing ability make it a compelling investment opportunity for long-term investors.

Company Profile

Ralph Lauren Corporation is an American fashion company that was founded by the designer Ralph Lauren in 1967. Approximately 85% of the voting stock was held by Lauren's family.

Polo Ralph Lauren (available to the general public), Ralph Lauren Collection (high-end), and Ralph Lauren Purple Label (exclusive premium), among others, are only a few of Ralph Lauren's clothing labels. Each line has a unique aesthetic and caters to a particular demographic.

Growth opportunities

Margin expansion by strengthening the luxury brand image

The company announced its " Next Great Chapter Plan " in 2018, with the goal of enhancing the luxury brand's reputation by lowering wholesale door presence and off-price presence. One of the objectives is to reach a 15% operating margin by the fiscal year 2025.

Since then, the company's average unit retail has increased by 70% , marking the 23rd consecutive year of growth. The company had successfully grown its full-price units by 25% while reducing its off-price units by 50%. Since 2018, its gross margin has increased by 710 bps. The corporation heavily invested in direct-to-consumer marketing as part of its strategy to increase brand recognition and boost sales. It increased the percentage of sales from its direct-to-consumer channel from 58% in FY2018 to 64% in FY2022. The change in distribution methods increased its profitability while also demonstrating the company's success in repositioning.

International expansion

The company's "Next Great Chapter Plan" began with the North American region. The second stage was to replicate the NA model in international markets in Asia and Europe. To raise the awareness of its brand internationally, it intended to open an additional 200 stores in Asia and 40-50 owned or partnered outlets in Europe.

The shutdown in 2022 affected 90% of the company's stores in China. Despite the temporary setback, the company sees tremendous potential for growth in China's market as a result of the lax COVID rules. To increase its direct-to-consumer channel penetration in China, the company last quarter brought Wei Zhang, a former SVP of Alibaba Group, onto the Ralph Lauren Board. The excerpt from the Q3 2022 earnings call that follows describes how well it performed in China.

In Asia, we drove another successful Singles Day event, ranking #2 for men's apparel and #4 for women's apparel on Tmall. The campaign included our first-ever Tmall cat-faced logo collaboration, generating billions of impressions across online and offline channels in China's key cities.

LVMH Moët Hennessy Louis Vuitton reported strong sales in Q1 2023, driven by a rebound in China and strong demand in Europe and Japan. This suggests that high-end China consumer spendings were still solid and returned to growth.

The company also saw stellar results in the Asia and Europe market. The travel industry tailwind is one of the reasons for its strong performance in Asia and Europe, in our opinion.

Risks

Inflation headwind in the consumer discretionary sector

Inflation pressure caused a relatively promotional environment in the consumer discretionary sector.

The company was cautious when replenishing and purchasing new inventories.

According to management, the company expected more AUR increases in Europe and North America to offset the inflation pressure.

We saw Asia, which is furthest along in the journey put a very strong AUR delivery, but more modest than the rest of the regions because they're further along in their journey. So fully offsetting inflation and expanding gross margin. Europe, which is in the middle of the journey also put up a nice AUR expansion as did North America. I do believe that because North America is earlier on in his earnings

Also, compared to other fashion companies, Ralph Lauren Company's iconic core products represent 70% of sales and remained a consistent driver for the brand. Its core products are less seasonal and thus the company can have more flexibility to manage its inventory. In this unsettling macroeconomic situation, we typically favor consumer discretionary companies with fewer seasonal inventories. We have an article on a similar situation that involves Under Armour (UA). " Under Armour : Finding Joy In The Darkest Of Times"

Moreover, the company saves more on operating expenses due to the uniformity in branding and design between labels.

Valuation

Its FWD P/E, FWD, EV/EBITDA, and FWD P/CF ratios trade below its 5-year average but slightly above the sector median. Due to the value of its brand and macroeconomic uncertainties, the stock may be trading at a premium to the sector and at a discount to its historical level.

The company spent $411.8 million on share repurchases in Q3 2022. The remaining availability under its repurchase program was about $1.217 billion as of Dec. 2022. Based on the current market price, the company has the opportunity to repurchase around 15% of its diluted shares outstanding or 26% of its floating shares outstanding.

Catalysts

Share repurchase

In FY2020 and FY2019, the company spent $694 million and $502 million respectively to repurchase its shares. However, due to the impact of COVID, the share buyback was paused in FY2021 before resuming in FY2022. The company has an availability of $1.2 billion for repurchasing shares, which can potentially have a positive impact on the stock price.

International expansion

The company was successful in repositioning its brand. This will create long-term benefits for the company. Despite macro uncertainty, in Q3 2022, the company's revenues in Europe and Asia increased by 13.2% and 15.7%, respectively. We think the company has the potential to grow its international market businesses. Capturing market share in the international market could be a catalyst for the stock.

Summary

The company's success in redefining its brand brought about long-term benefits for it. The company had consistently increased its AUR for the previous 23 quarters, demonstrating its powerful pricing ability.

In the midst of the macro uncertainty, its strategy of concentrating on core products makes it nimble to play both defense and offensive.

The Ralph Lauren stock downside can be protected by the share repurchase program. Future margin expansion may act as a catalyst for higher stock valuation multiples. Its expansion in the global market can sustain ongoing EPS growth. We consider the entrance price to be attractive.

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