ZGN - Zegna: Paving The Road To Growth

2023-12-19 22:47:29 ET

Summary

• Post Capital Market Day, Zegna group CAGR topline is estimates at >10% with an increase adj. EBIT of approximately 20%.
• Zegna has space to grow on sales density, new store openings, and Tom Ford Chinese entry.
• After an excessive de-rating and with higher growth estimates, Zegna is back to being a Buy.

After our recent analysis of Moncler called " Excessive De-Rating, Again A Buy ," we believe that Ermenegildo Zegna ( ZGN ) is worth deep consideration. In early December, the company presented its second Capital Market Day after the IPO, and today, we are back to comment on Zegna's equity story. During the CMD, the top management updated the investor base with the company's growth guidance, with a particular focus on Tom Ford. Here at the Lab this year, we already reviewed Tom Ford's Opportunity ; however, thanks to the new Zegna's outlook and our forward-thinking analysis, we should incorporate higher numbers into the segment. Since the IPO , our internal team has had good company coverage (Fig below), and after delivering healthy results, we decided to move Zegna to a neutral rating. However, the recent de-rating seems excessive given the turnover expectation and Zegna's growth lever optionality. Even considering a normalization of the luxury growth rate in the upcoming year, we are almost back to the IPO stock price, so we moved (once again) our rating to a Buy.

Post CMD - Our Model Changes

Before moving on with our changes, we should report the following. Zegna aims to deliver a CAGR of revenues over 10% and an Adjusted EBIT of around 20% in the medium term (Fig 1). In addition, the company sees a positive momentum across brands and shares the business strategy . In a nutshell, Zegna is ahead of schedule with an impressive track record (Fig 3). In detail, the company confirmed a plus 25% growth for 2023, which aligned with our previous set of estimates. What is worth reporting is the fact that Zegna's top-line sales were at €1 billion just in 2020. Despite a growth rate normalization, management highlighted strong trends in November and looking ahead; the company guides topline sales of > 10% compared to a consensus estimate of +7%. Until a few months ago, Zegna forecasted to reach €2 billion in turnover by 2025; however, the outlook has improved, and here at the Lab, we believe the company will reach the target as early as next year.

Source: Ermenegildo Zegna Capital Market Day - Fig 1

Looking at the segment split, we see room for growth for the three divisions: Zegna brand, Thom Browne, and Tom Ford (Fig 2).

1. The flagship Zegna brand, representing 59% of the company's total sales, has space to accelerate sales thanks to store optimization and 50 new shops opening in the medium term. Moreover, Zegna is looking to optimize sales densities, with the brand expecting a 50% uplift in 2023;
2. Thom Browne, representing 21% of the total company's sales, is guided to growth in the high teens yearly, thanks to higher channel penetration. The division growth ability is skewed to volume increase with the opportunity to price increase. In our estimates, this is the division with the lower growth rate set at 8% on our visible period;
3. Tom Ford represents 10% of the total company's sales and is set to grow with a >10% topline CAGR, with 2024 as a transition year. The division growth driver includes 1) better product MIX (accessories represent only 4% of sales), 2) changes in GEO MIX with significant contribution coming to Chinese opening (thanks to Zegna and Thom Browne's past results and GEO focus), and 3) category drivers uplift with a men's/women's split at 70%/30%. Looking at the core operating profit level, the division reached a single-digit number at 5.7%, well below the group average. This is why we believe that 2024 is going to be an integration year with dedicated investment to lay a solid foundation for the brand's medium-term growth potential. In our view, this represents the highest opportunity to increase Zegna's profitability, mainly supported by the entry into the Chinese cluster.

Fig 2

Post CMD, we are increasing our 2024 sales to €2.05 billion, with a core operating profit estimate of €260 million. This represents an overall growth rate of 8%, which we consider a solid growth rate for 2024. Our EBIT margin is 12.7%, increasing 70 basis points vs. our 2023 forecast. Given the cash surplus, we are growing the DPS to €0.15 per share while lowering the company's net debt to €711 million at year's end.

Fig 3

Conclusion and Valuation

With an adj. EBIT CAGR of approximately 20%, higher than expected revenue generation, and the recent de-rating, Zegna's stock price is back to an exciting buy area. Tom Ford's EBIT recovery might be a key value driver over the next visible period. The company is now in a comfort buy rating zone, trading with a P/E of 17.0x on 2024 numbers. Based on our numbers, we reached an EPS of €0.58 for 2024, and valuing the company with a P/E of 25x, we arrived at a valuation of €14 per share (from our previous target price of €13.5 per share ). Downside risks are 1) non-successful product innovation, 2) Tom Ford EBIT recovery and ongoing expansion to China, 3) negative FX development given non-€ denominated sales and COGS in €, 4) Governance/family problems, and 5) potentially more significant than expected consumer slowdown.

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