2023-05-25 09:00:00 ET
Summary
- Luxury remains strong as confirmed by blowout reports from European luxury companies. While the US is growing at a slower rate, this is more than offset by strength in other markets.
- China's reopening rebound post-COVID lockdowns might be slower in aggregate than some expected, but it will also endure longer after 3 years of depressed Chinese consumption.
- CPRI and PVH remain ridiculously cheap while investors and short sellers ignore clear positives. CPRI short interest has more than doubled since the end of January to 6,541,028 shares.
- The CPRI CEO bought nearly $10 million in stock about two weeks prior to the end of the quarter, while the CFO also spent over $200,000 buying shares on the same day in the open market.
- CPRI already lowered expectations significantly last quarter due to accelerated re-alignment of their US wholesale channel.
Next Wednesday, May 31, both Capri Holdings (CPRI), and PVH Corp. (PVH) will report their respective fiscal quarterly earnings reports. Investors should note that Abercrombie & Fitch ( ANF ), which trades at 4x the multiple of CPRI just beat lowered expectations , and the stock more than fully recovered the stock’s drop since the end of January soaring more than 25% to over $29 per share today. With a much lower valuation, lower earnings expectations, and a higher increase in short interest, if CPRI stock does just the same, the stock could go up 75% when they report next week. Investors are missing out on a massive dislocation and making the mistake of lumping CPRI (and to some extent PVH) in generic consumer discretionary baskets. The upside for both companies from current levels is too compelling to ignore, despite widespread fear of a potential US debt default and a possible interest rate-induced recession.
Short Interest
Following downgrades from Jefferies and Barclays, CPRI's short interest has more than doubled since the end of January to 6,541,028 shares. So short interest with the stock at ~$39 is more than twice what it was when the stock was at $68.38. One need only look at stock reactions when the short interest gets too high and a company exceeds even already low expectations to see the likely result. Last quarter PVH gapped up 20% when the company reported. I expect both CPRI and PVH will have very positive stock reactions when they report next week.
The Value Proposition
I have written about CPRI and PVH many times over the past few years, and most recently back in March, a full month after CPRI had already reported their December quarter and the stock had plummeted from nearly $70 prior to earnings to the mid-$40s. (CPRI - Time to Load up on Cheap Luxury Stock) . The focus was CPRI, but also advocated purchasing PVH which was trading in the high $70s. Subsequently, PVH blew out numbers and gapped higher when they reported a few weeks later reaching over $90 per share within days of reporting, and has since pulled back and consolidated in the mid-$80s. Meanwhile, CPRI has languished from numerous downgrades, relentless selling and an increased short interest as sentiment turned very sour and the presumption that the consumer would stop spending has pervaded into most retail stocks. Despite having virtually zero correlation to retailers such as Target and Foot Locker, CPRI has been dragged lower as the selling in most retailers across the board pushed CPRI to a new 52-week low about two weeks ago. This is despite consistent massive upside reports from upscale luxury brand companies across the board including LVMH, Hermes, Farfetch, PVH, Tapestry, Hugo Boss, Richemont (Cartier), and Ermenegildo Zegna among others. CPRI and PVH both remain cheap and very attractive at current levels with CPRI's valuation at absurd levels. Both CPRI and PVH will be reporting earnings next Wednesday, May 31, 2023. Unambiguously, I recommend investors buy both companies aggressively prior to the report. CPRI is my largest position by a wide margin and PVH is my second-largest position and I believe both stocks are poised to move much higher. This is a rare asymmetric risk/reward in light of the strength of the upscale consumer, strength in luxury, and dirt-cheap valuations for these two companies while expectations remain very low.
Luxury Remains Strong Across The Board
Last week luxury retailer Farfetch ( FTCH ) shares soared after reporting much better than expected Q1 earnings and revenue (Farfetch stock surges 20%) as demand from the upscale consumer remains very strong for luxury goods.
Investors, funds, and quants continue to hammer "retail" stocks generically when unrelated consumer companies report weakness. Foot Locker and Target are not comparable to upscale luxury goods retailers such as CPRI and PVH. Foot Locker unsurprisingly reported poor results as the low to mid-tier consumer has demonstrated weakened demand. Retailers such as Foot Locker and Target are seeing "theft" of merchandise on such a massive scale that it is a reportable line item in their reports as massive theft rings in major cities exhibiting the lawlessness continues to weigh on these companies. Conversely, upscale luxury retailers are experiencing tremendous demand and strength across the board, while many luxury stocks have languished due to the lack of differentiation of investors.
The Simple Economics and Better Gross Margins
Resellers such as Foot Locker face pressure from increasing trends for consumers to purchase both online and direct from manufacturers such as Nike, who benefit from better margins when consumers buy directly. If a pair of sneakers cost $50 for Nike to manufacture, it is obviously much better for Nike to sell directly to the consumer through their stores or their website for $100, than to sell wholesale to Foot Locker for $75, who then sells to the consumer for $100. This trend continues its inevitable path and will ultimately result in a death blow for resellers such as Foot Locker that have an inherently flawed model in 2023 and moving forward.
CPRI has been punished for weakness in its wholesale business for Michael Kors when the market should be rewarding it for focusing on greater profits and emphasizing its direct model. CPRI stock nearly doubled from its late September 2022 lows in the $30s to nearly $70 per share when the stock was decimated (Capri Holdings crashes 20% on Earnings Miss and Guidance Cut) following their fiscal Q3 earnings report when the company provided very conservative guidance and the analyst community focused on the wholesale downtick in Michael Kors rather than the strength in the direct and upscale businesses for Michael Kors and especially for Versace and Jimmy Choo. Estimates had gotten ahead of the stock, and while the company still anticipates solid revenue and earnings growth, expectations needed to be tempered in light of an inventory work-down and China re-opening later than expected. Moreover, following the initial plunge from ~$70 to the low $50s in early February, the stock remained heavily pressured as analyst downgrades and massive selling pounded the stock into the low $40s and the pounding persisted into early March.
Insider Buying By CPRI CEO and EVP/CFO
After appearing to have finally seen investor capitulation with a final puking on heavy volume into mid-March after five weeks of heavy volume selling, the stock started to rebound in mid-March. On March 17, with less than two weeks remaining in Fiscal Q4 for the company, CEO John Idol and EVP/COO/CFO Thomas Edwards made a significant open market purchase (CPRI CEO and EVP Massive Purchase Prior to Quarter End) . John Idol bought 240,000 shares (nearly $10 million) and Thomas Edwards bought 4900 shares (over $200,000) of CPRI stock at $41 and change. Those are two significant executive purchases with excellent visibility as to how the quarter might be shaping up and certainly with perspective as to how the luxury market would be fairing into the coming months as China was really starting to come back online following their reopening post-COVID from their draconian lockdowns. There are many reasons executives might sell stock. From my observation, there is only one primary reason executives buy their own stock - to make money. Some may argue executives purchase stock for optics and to signal to the market that they have confidence in the company. Perhaps this plays a small side benefit in the rationale for some executives. But I do not believe for a moment that any executive purchases stock in the open market thinking there is a high probability that the stock might go much lower. Nobody wants to lose money (paper or otherwise) and knowingly purchase stock thinking the share price will soon be lower. They would simply wait.
CPRI Stock Chart (through May 22, 2023) (TradeStation)
Chronology of a Baker's Dozen of Recent Significant Events Suggests...
Buy CPRI and PVH!
- May 24, 2023 - Abercrombie & Fitch ( ANF ) reports and guides better than reduced expectations and soars more than 25%. ANF operates through two segments, Hollister and Abercrombie . (Abercrombie & Fitch Soars after Earnings Topper)
- May 22, 2023 - Tapestry ( TPR ) - Luxury goods retailer of brands such as Coach , Kate Spade , and Stuart Weitzman is up more than 50% off last October's lows while CPRI is not even up 10% from its 52-week low from less than two weeks ago. Tapestry was up nearly 10% when they reported on May 12 and is currently up more than 15% from where investors could buy TPR the day prior to their earnings. (TPR - Beats Estimates and Increases Guidance) . It is noteworthy that Tapestry is Capri's main competitor for the Michael Kors brand, which analysts have been so negative on.
- May 18, 2023 – London-based luxury e-commerce retailer Farfetch ( FTCH ) blows out numbers and stock surges 20% (Farfetch stock surges 20%)
- May 12, 2023 - Richemont (maker of Cartier ) ( OTCPK:CFRUY ) blew out numbers and demonstrated broad-based growth with Q4 organic sales +22% (vs. consensus +12%) and FY23 EBIT a 5% beat as the stock reached all-time highs. (Cartier Maker Richemont Rises to Record as China Rebounds)
- May 4, 2023 - Luxury retailer Hugo Boss ( OTCPK:BOSSY ) beats numbers and raises guidance (Hugo Boss Beats Estimates) . Hugo Boss is up more than 60% since last October's lows.
- May 2, 2023 - Barclays downgrades CPRI (Barclays downgrades CPRI and considers it a loser based on a weak consumer)
- April 25, 2023 - Jeffries downgrades CPRI to a "Hold" based on Macro concerns. (Jeffries downgrades CPRI)
- April 20, 2023 - Zegna blows out earnings with more than 13% earnings growth and 25% in direct-to-consumer growth. (Zegna Reports Strong Earnings)
- April 20, 2023 - American Express reports earnings and says the upscale consumer is very strong. From the American Express call (AMX - Earnings Call Transcript)
" March was a record spending month for us . Overall, it was the highest month we ever had in the history of the company . So feel free to elaborate on that, Jeff. But millennials have been a big part of our growth story, and if you go back pre-pandemic, they represented about 20% of our billings. Now they represent 30% of our billings, and they are growing at, I mean, last quarter they grew at 30%, this quarter they grew at 28%. And we're acquiring 60% of our new cards acquired."
" Based on our performance to date, we are reaffirming our full-year guidance of delivering between 15% and 17% revenue growth and earnings per share of between $11 and $11.40. We remain committed to focusing on achieving our aspiration of delivering sustainable revenue growth greater than 10% and mid-teens EPS growth as we get to a more steady-state macro environment."
"Well, on the consumer side, just look at sequentially, consumer in the fourth quarter grew 15%. We’re growing 16%. So there was really no slowdown there. "
"... international is back to our fastest growing segments . So, we’ll keep watching it, but really happy with the consumer."
- April 14, 2023 - Hermes blows out earnings with revenue up 22% YOY. (Hermes Quarter-end Earnings release on April 14 for March 2023)
- April 12, 2023 - LVMH blows out earnings and reported revenue growth of 18% vs consensus of 9% . The high-end consumer clearly remains strong. (LVMH stock hits record high with strong earnings and resilient luxury spending)
- March 28, 2023 - PVH blows out earnings and stock pops 20%+ . (PVH - Strong Earnings and Stock up 20%)
- March 4, 2023 - Macy's blows out earnings and specifies upscale consumer demand as very strong. (Macy's up 10% on Earnings Beat and Strong Guidance)
Connect the Dots - Buy CPRI and PVH
From my perspective, the above "dots" above are easy to connect. We have across-the-board evidence from luxury retailers, upscale companies, and even American Express telling the world that the high-end consumer is not slowing, but actually increasing consumption. We have sell-side analysts downgrading CPRI and becoming increasingly negative AFTER the stock has already been nearly cut in half and management provided conservative guidance. CPRI already guided the wholesale business of Michael Kors down 35%. Thus, expectations are very low. Management has explained they are de-emphasizing the wholesale channel and spending less on it. This is a positive. The execution has been solid, and both CPRI and PVH are poised to move higher. And in the case of CPRI, significant insider buying around $41 per share suggests investors have a huge opportunity to pick up stock below $40 before the earnings report. And the earnings report would seem highly unlikely to disappoint in light of the conservative guidance and consistent affirmation from luxury companies across the board touting the strength of the upscale consumer. And do not forget that we have not seen any numbers from CPRI since China reopened.
Valuation
At ~$5 billion market capitalization, CPRI is about as cheap as one could imagine. It trades at a paltry 6x P/E with three solid luxury divisions that should trade much higher.
If one were to compare Brunello Cucinelli S.p.A. ("BC" on the Italian Exchange and "BCUCY" - thinly-traded ADR) and Versace (an ultra-luxury division of CPRI) both have nearly identical expectations from analysts regarding financials and operating margins over the next 12-24 months, yet Brunello Cucinelli sports an enterprise value of 5.5x NTM revenue. If one were to apply the same multiple to Versace, it would yield the entire market cap of CPRI, and investors would have Michael Kors and Jimmy Choo for free. Versace revenue and earnings have been negatively impacted by the strong US dollar, and underlying revenue/volume is already closer to the $1.2-$1.3 billion range whereas Brunello Cucinelli was the recipient of a weaker Euro.
The scarcity value of luxury brands continues to grow. Larger luxury houses' appetite for acquisitions at healthy valuations remains unsated. Estee Lauder recently announced the acquisition of Tom Ford. Applying similar acquisition multiples to CPRI's Versace and Jimmy Choo brands would imply a valuation of close to zero for the Michael Kors business.
I still estimate the Michael Kors business is worth north of $75 per share (quite a bit more than zero), applying a multiple consistent with its lower growth profile. Adding up these parts, I estimate Capri stock is worth north of $125/share today (versus ~$39/share today). Thus, CPRI remains my top idea. I continue to like exposure to the upscale consumer, with both CPRI and PVH.
On a final note, I am surprised at times by a superficial argument from some short sellers when trying to make a bearish case on CPRI relative to their debt. CPRI is 1x leveraged and could easily pay down its debt quickly from its FCF, but buying back its stock (particularly at current levels) makes imminently more sense for investors. Often investors will take a cursory glance at Bloomberg to try and gauge the debt. One cannot compare EBITDA to this debt number as most of this is leases. I believe by the latter part of next week, those who opt to remain short CPRI will experience a lot of pain and those who buy the stock below $40 will be celebrating. I expect PVH holders will be similarly pleased.
For further details see:
Capri Holdings And PVH - Buy Now Before Earnings Next Week