2023-05-09 16:42:30 ET
Summary
- In the past year, Canada Goose (+11.20%) has experienced superior growth to the general market (+3.66%) while lagging TradingView's Luxury and Fashion Index (+69.18%).
- This strength against the market comes in an era of higher interest rates and reduced consumer spending.
- However, Canada Goose has experienced a decline in YoY cash flow metrics owing to recessionary pressures.
- On the contrary, though, I believe temporary headwinds will do little to harm the iconic brand reputation and self-fulfilling, margin and scale expanding model produced by Canada Goose.
- Due to the combined strength of the Canada Goose model and the firm's relative undervaluation, I rate the company a 'buy'.
Canada Goose ( GOOS ) is a multinational, Canada-based luxury fashion retailer with a focus on premium outerwear. The company is committed to operating at the intersection between performance and luxury.
Through its activities, Canada Goose has experienced TTM revenues of $867.90mn alongside a net income of $45.84mn.
Fundamentally, my thesis surrounds Canada Goose's ability to capture future margin and scale growth in conjunction with its current level of undervaluation.
Introduction
Following a multi-sided growth strategy, Canada Goose's corporate strategy has ensured growth regardless of macro headwinds; the company expects growth from accelerated vertical integration and direct-to-consumer offerings, a wider geographic footprint, an expanded product mix, and continuous price increases on its luxury products.
Canada Goose Annual Presentation
As demonstrated above, these strategies have yielded significant success over the past five years, with overall revenues increasing at a 20% CAGR, driven by revenue diversity, and 38% CAGR among transitioning to DTC locations, supporting margin expansion.
Valuation & Financials
General Overview
Over the past year, while Canada Goose (+11.20%) has beaten out the general market, represented by the S&P500 (SPY: +3.66%), it has trailed TradingView's Luxury and Fashion Index (+69.18%).
Canada Goose (Dark Blue) vs Market & Industry (TradingView)
My belief is that TradingView's Luxury and Fashion Index has been artificially driven higher by heavyweight fashion houses such as LVMH ( LVMHF ) - up 70.25% for the year - rather than overall strength from similarly sized firms. As such, Canada Goose is largely following growth trends in the luxury space, though I maintain that its operational and financial success warrants a higher valuation.
Comparable Companies
The niche that Canada Goose operates within could best be described as mid-high-end luxury outerwear. While this is an extremely specialized description and many that fit it operate privately, the following best fit the description; Columbia Sportswear ( COLM ) is a slightly more budget-oriented outdoor wear option, while V.F. Corporation ( VFC ) is a conglomerate of clothing brands including the likes of North Face, and ANTA Sports ( ANPDF ) is a Chinese company owning Arc'teryx.
As we can see above, Canada Goose does middle out in terms of share price performance among peers over the past quarter and year.
However, Canada Goose demonstrates its superior scale - second to only Anta - and margin expansion with the respective second-highest and highest revenue and earnings growth. Moreover, Canada Goose's growth is manifested in multiples-based value, with the lowest PEG ratio, second highest ROE, etc.
Therefore, compared to its peers, Canada Goose indicates equal or greater value on a purely fiscal basis.
Valuation
According to my discounted cash flow analysis, Canada Goose, at its base case, is undervalued by at least 9%, with a fair value of $22.50, up from $20.56 today.
To calculate my model, I assumed a benchmark discount rate of 8%, in line with the company's capital structure (balanced debt and equity levels, average industry level) and lower capex requirement. Alongside continued revenue and margin expansion, I project revenue and net margin growth to be in line with the trailing 5 years.
AlphaSpread's multiples-based relative valuation tool estimates an even greater undervaluation of 46%, with a fair value estimated to be $38.04 according to the tool.
Thus averaging out my DCF and AlphaSpread's relative valuation, Canada Goose's actual value should be $30.27, with the stock currently undervalued by 27.5%.
Built-In Margin & Scale Expansion Develops a Convincing Growth Story
Canada Goose Annual Presentation
Central to the Canada Goose growth story has been its effort to expand DTC offerings. The latter strategy brings twofold benefits; Canada Goose is able to augment its footprint and consumer accessibility while increasing margins through vertical integration. Said vertical integration completes the firm's end-to-end strategy, with a majority of production in North America, allowing the company to largely sidestep geopolitical and supply chain risk. Moreover, developing full control of the in-store experience enables a tailored experience for the targeted Gen-Z (30% of the luxury market) audience, fulfilling the company goal of 'democratizing' the luxury experience and making it less cold and sterile.
Canada Goose Annual Presentation
Furthermore, the unit economics of each store continues to improve, with low required capex, >40% operating margin per store, and significant per sq ft sales.
Canada Goose Annual Presentation
Another central component of Canada Goose's scale growth strategy has been geographic expansion; by 2028, the company aims to expand penetration in its core Canadian market alongside the US, EU, and mainland China.
This diversification would occur alongside product diversification, with the company aiming for Heavyweight Down products to be ~50% of sales by 2028, compared to ~66% today and ~85% in 2017.
Canada Goose Annual Presentation
Combining DTC, vertical integration, geographic growth, product mix diversity, and price increases, Canada Goose expects to maintain ~70% gross margins, and that includes contingencies for inflationary pressures, interest rate pressure, and reduced product margins from new product introductions.
To operationally achieve these targets, Canada Goose maintains a disciplined capital deployment regime, with growth reinvestments taking priority, followed by opportunistic repurchases of shares and non-necessary debt management activities.
Wall Street Consensus
Analysts actually disagree with my thesis on Canada Goose's upside, seeing the stock as a 'hold' or 'neutral', with average price projections for 1Y approaching $20.40, a decline of -0.76% or $0.16.
At minimum and maximum bounds, analysts project significant volatility at +/-50%. Minimum pricing analysts likely believe interest rates will lead to dampened demand while I, alongside some analysts, believe that interest rates will not have an existential impact on the stock, and that the company's operational strategy and financial position enable long-term growth.
Risks & Challenges
Interest Rate Demand Effect
As demonstrated by QoQ and YoY declines in profitability and free cash flow yield, rising interest rates in addition to the pre-eminent inflationary pressures reduce demand for luxury Canada Goose products. Continued declines in demand can potentially lead to negative income and FCF and materially affect the business.
Inability to Execute Corporate Strategy
Alongside the demand side, interest rates can make it increasingly expensive for Canada Goose to purchase and lease the real estate space needed to fulfill its DTC ambitions. This rings true for product mix diversification as well as expansion into foreign markets. Such an impact may reduce the company's competitiveness and future cash flows.
Change in Consumer Preferences
Although Canada Goose has seen stable and growing demand for its products and intends to continue to diversify its product mix, consumers in the luxury market are prone to shifting preferences, particularly when deep-pocketed and highly consolidated luxury conglomerates are in contention. This can prove to be an existential risk to Canada Goose's cash flows and growth.
Conclusion
In the short term, I expect Canada Goose will see a reversion in demand while its stock price returns to peer-equal levels on a multiples basis.
In the long term, I project that Canada Goose's multi-sided growth strategy will yield significant margin and scale expansion.
For further details see:
Canada Goose: Resilient With Compelling Business Model