LVMHF - The LVMH Playbook: Crafting Luxury's Gold Standard With Acquisitions And Craftsmanship

2023-09-06 06:38:08 ET

Summary

• LVMH has a strategic advantage in the luxury market due to its successful acquisitions and ability to elevate brands through pricing and diversification.
• LVMH focuses on preserving craftsmanship and maintaining a high-quality supply chain, while also leveraging the advantage of scale.
• Those attributes have contributed to the company's outperformance during the previous decade.

In an earlier discussion about the world of luxury brands, we took a closer look at Tapestry ( TPR ) and found it somewhat lacking the luster we'd usually associate with such a high-end name. It was clear that Louis Vuitton ( LVMHF ) ( LVMUY ) has been the thoroughbred in this race.

What caught my attention was the defining elements that set Louis Vuitton apart from its competitors. It’s akin to spotting a "moat" around a business, one of those unassailable advantages that give a company the edge. Let’s dissect that advantage.

Acquisitions: Not All Created Equal

Now, acquisitions are not novel to either Tapestry or LVMH. Both have ventured into new territories by acquiring other companies. But like a skilled fisherman knows where and when to cast his net, LVMH has shown an aptitude for choosing the right catch. Their acquired brands are not just trophies; they're complementary pieces that make the entire portfolio more resilient and vibrant.

A brief trip down memory lane. In 1987, a seminal event happened: Moët Hennessy and Louis Vuitton merged, forming LVMH. It wasn't an immediate moonshot; integrating two diverse luxury brands posed its challenges. But, steered by Bernard Arnault, the conglomerate started picking up brands like a savvy collector. Each addition was not just an adornment but a strategic fit . From Marc Jacobs to Givenchy to Tiffany & Co., each acquisition was like adding a new instrument to an orchestra—different but harmonious.

Another defining character of LVMH is their nuanced understanding of pricing. When they bring an acquired brand under their umbrella, it’s not business as usual. Sometimes they elevate the brand by smartly increasing prices, often revamping its marketing and sometimes introducing exclusive, limited editions. It's as though they breathe new life into it, renewing its allure and making it coveted once more.

LVMH also broadens the brand. Take Louis Vuitton’s canvas handbags as an example. Recognizing the over-reliance on this one product, they diversified, offering items like fragrances and small leather goods at more accessible price points. The portfolio thus becomes a range, catering to both the entry-level aspirants and the high-end loyalists.

By taking full control of retail distribution, LVMH guards the prestige of its brands like a jeweler guards his gems. For instance, Louis Vuitton products are sold exclusively in controlled spaces. There's no dilution of brand value through discounting or unauthorized selling.

So, while Tapestry and other would-be titans in the luxury market have their merits, it's LVMH that seems to have the playbook to ensure each of their brands is like a well-tended garden —flourishing, complementary, and, most of all, enduringly valuable. Like any good portfolio, diversification and strategic management appear to be their hallmark, a lesson for investors and competitors alike.

The Value of Craftsmanship

The essence of luxury is not just in the name or the price tag; it's woven into the very fabric of craftsmanship that these brands represent. Consider LVMH, a portfolio that embraces and elevates this artisanal heritage. When they acquire a brand, they dig deep into the roots of the brand's craftsmanship —something akin to tilling a fertile field to ensure an even richer harvest. Preserving this isn't just romantic nostalgia; it's a strategic move that justifies the premium pricing of the brand.

Next, let's look at the often under-appreciated supply chain. Here again, a savvy operator like LVMH understands the intricacies. They don't merely cut costs; they elevate the chain itself. Whether it's by negotiating with suppliers for better materials or consolidating them for quality consistency, LVMH ensures that the supply chain is less a conveyor belt and more a value-addition loop.

Another feather in LVMH's cap is the advantage of scale. Being a conglomerate allows them to pool resources and expertise across their portfolio. Imagine having a corporate think tank with the brilliance of designers like Marc Jacobs and Alexander McQueen. They not only provide continuity but are also like a burst of fresh air, invigorating the brands they touch.

Interestingly, globalization hasn't led LVMH to centralize everything. In a world of increasing homogeneity, the distinctiveness of a regional craft is a cherished rarity. LVMH recognizes this. Take champagne; it must come from France's Champagne region to be authentic. Similarly, there are leather goods best crafted in specific Italian or French locales. By maintaining or even expanding these localized production centers , LVMH adds another layer of authenticity to their brands, while also minimizes counterfeiting. For brands under LVMH, quality control involves more than just occasional checks. It's a rigorous, almost academic, approach to maintaining the brand's legacy—from training artisans to implementing protocols that ensure every product that leaves the factory is a true ambassador of the brand's heritage.

Finally, how you manage your inventory in the luxury sector is not a trivial concern. It’s almost a balancing act. Produce too much and you dilute exclusivity. Produce too little and you frustrate demand. LVMH has mastered this high-wire act, creating a sense of scarcity that adds to the allure of their brands.

Distribution is Key

When a brand joins the portfolio of a well-established conglomerate like LVMH, it's a bit like marrying into a well-connected family. Suddenly, there's a wealth of resources and channels to amplify your reach. Let me break down some key advantages:

First off, the global network of retail spaces becomes an immediate asset . Picture a brand new bakery shop getting access to prime locations in food bazaars around the world overnight. Your brand doesn't just sit in the corner; it gets front-row real estate in multi-brand stores and even its own boutiques in some of the most sought-after zip codes on the planet.

Secondly, we live in a digital world, and a strong online presence is as vital as oxygen. Joining a conglomerate offers brands an instant e-commerce lift, making them available to a digital-savvy crowd that prefers the click of a mouse to the ring of a cash register.

Don't underestimate the power of rubbing shoulders with the right crowd. Partnerships with iconic luxury department stores like Harrods or Saks Fifth Avenue mean you're not just in the game; you're in the majors. Your products aren't just visible; they're showcased to an audience that's looking for what you offer.

Airports and travel retail spots are like fishing in a barrel, especially for items that fall into the impulse-buy category. Picture fragrances and cosmetics; travelers can rarely resist these last-minute additions. It's a golden opportunity for immediate sales boosts.

But while growth is essential, it's just as crucial to maintain the allure and mystique that make a brand aspirational. Therefore, the conglomerate practices a philosophy of selective distribution. It's not just about being everywhere; it's about being in the right places that keep the brand elevated.

Let me give you some real-world examples to hammer it home:

When Sephora joined the family, it wasn't just a matter of adding another beauty retailer to the portfolio. It was about creating a high-profile avenue for other beauty brands under the same umbrella to strut their stuff.

Tiffany & Co. isn't just about the iconic blue box; it's about expanding its universe. The brand now has the chance to be featured in upscale department stores and digital platforms where it had less of a footprint before.

Bulgari isn't just Italian luxury; it's a global phenomenon, thanks to a far-reaching distribution network that allows it to shine in key markets.

Belmond represents a foray into the luxury travel sector. Think of it as a delightful cross-promotion: spend a night in a plush Belmond suite, and you might find yourself indulging in other luxury goods that come from the same family.

Dissecting the numbers

Looking back is like reading yesterday's stock quotes; it's instructive but not necessarily predictive. Still, if a company has a playbook that's worked for the last 30 years, there's wisdom in those pages. The secret recipe here is maintaining premium prices while seamlessly integrating new acquisitions. If this formula holds, expect a continued revenue growth that might reasonably hover around the 9% mark, based on the past decade. Not to mention, a leaner and more effective cost structure is a slow-burning but bright candle for long-term profitability.

Let's divide the sector into two camps. On one side, you've got stalwarts like Louis Vuitton, Hermès ( OTCPK:HESAY ), and Lululemon ( LULU )—these are the A-students of the class. On the flip side, you have Tapestry, Capri ( CPRI ), and Levi's ( LEVI )—brands that haven't kept pace with the frontrunners. What separates the winners from the also-rans?

Keep an eye on gross margins. You don't want to see a roller coaster; you want a steady escalator going up. Wild fluctuations are a red flag signaling that a company's pricing power might be more cyclical than sustained.

Tapestry and Capri illustrate this cautionary tale. Their gross margins have been on a veritable merry-go-round, and not the fun kind. Tapestry's gross margin has even shrunk compared to a decade ago, and Capri only recently managed to climb past its own 10-year marker. How? By cutting capital expenditures, which usually translates to increased outsourcing—often a band-aid solution, not a cure.

Take note that both LVMH and Lululemon showed increasing gross margins alongside rising capital expenditures. That's a sweet spot because it indicates strong pricing power that finds its way down to EBIT margins. The goal here is stability and upward trajectory, not erratic peaks and valleys.

Let's also consider debt. Adding acquisitions to your portfolio should be like adding tools to a toolbox; they should be useful and multipurpose, not just shiny objects. If the debt needle starts moving upwards disproportionately.

it's a sign that the acquisitions aren't pulling their weight in terms of debt amortization. This isn't just a red flag; it's a siren. High debt levels can erode the returns on capital employed, turning a virtuous cycle into a vicious one.

Valuation & Risks

Having dissected the vital signs that make or break companies in this sector, we're in a better position to keep a pulse on their well-being. Performance changes in this industry are more of a slow cruise than a rapid dash. For a company like LVMH, there's no evidence of waning ability to command top-dollar while keeping sales on the upswing. However, potential hazards lie ahead, such as a limited selection of complementary brands for acquisition or the temptation to buy for the sake of revenue growth, thereby jeopardizing the balance sheet and overall business health.

Let's sketch out two likely scenarios through 2025, shall we? The optimistic view anticipates a 9% revenue growth rate, a net profit margin of 19%, and an earnings multiple of 35. The bearish perspective assumes no growth and a net profit margin of just 10%. The initial takeaway? Returns appear skewed towards the downside. But don't jump to conclusions.

Our scenarios are built on a 3-year holding period, factoring in an implied 50% chance for the bullish outcome. Stretch that analysis to a 10-year horizon, and the implied probability shifts to 25% for the bull case. What's the lesson? This isn't a stock for the short-haul or for going all-in at once. It's akin to a vintage wine, growing more valuable with time. My strategy would be to accumulate more shares during dips and lighten up a bit when the going gets good.

Even amid market exuberance, the current price-to-earnings ratio isn't off the charts. But if we're talking about a long game, starting a position at or below 20 times earnings would be where I'd plant my flag.

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