2023-04-06 11:52:54 ET
Summary
- With Cartier, they have probably the most iconic brand in the jewelry market that is highly sought after.
- Like most companies in the luxury segment, they also carry a hefty price tag.
- But because of their return on capital and brand portfolio, I would prefer other companies in this industry.
Thesis
Richemont ( OTCPK:CFRHF ) is one of the world's leading luxury goods companies. In Cartier, they have one of the most valuable assets they need to protect. But this is not a cheap company when you look at its EV/EBIT valuation. And compared to its peers, its return on capital is below average.
In the next few sections, I will show you why I think this is not the time to build a position in this company.
Analysis
Since Richemont only provides detailed information in its H1 and H2 reports, I will use the two most recent publications. This will be the H1 report and the Q3 ad hoc announcement . The Q3 announcement from January 18, 2023 is the latest.
Despite a challenging environment for many companies in 2022, Richemont, like many other luxury companies, posted good results. Right now, it looks like the rich are still spending enough money on luxuries because they are not that affected by the economic situation.
Double-digit growth was achieved in Europe, the Americas, Japan and the Middle East. Unfortunately, China, the largest contributor to total sales, was still impacted by the COVID-related crisis. The hope for many who have invested in luxury is that with the lifting of the zero COVID strategy, sales in China will increase sharply.
But I think a lot of that is already priced into the stock, and not-so-good results from China could cause the stock to fall. Sales in Europe benefited from tourists from the US and the Middle East taking advantage of favorable exchange rates. Sales in the Middle East were also boosted by the FIFA World Cup in Qatar at the end of 2022.
H1 Presentation Richemont
One of the strengths of the luxury industry is its really strong gross and operating margins. Despite the decline in 2020 due to COVID, they posted really good numbers. Some of their peers are a little better on the margin side, but with such high quality businesses, that is just nitpicking.
Where the competition really excels is in return on invested capital. Richemont's ROIC over the last 5 years is only in the single digits, while some competitors have 20%+.
With an EV/EBIT of about 23, the price you have to pay is far from cheap. So over the last 5 years this looks like the average price and most of the competitors are just as expensive, but they are in a better position in my opinion.
If we look at the reverse DCF to see what is priced into the share price, we can see that EPS needs to grow by 20% over the next 10 years to justify the current share price. And even for the luxury industry, which has seen fabulous returns in recent years, this is not an easy task and needs good execution.
They have a strong portfolio of brands in different niches of the luxury market. With Cartier, they probably have the strongest asset in the jewelry market. But there are rumors that LVMH ( OTCPK:LVMHF ) would like to buy Cartier . In the watch segment, Cartier has some popular watches like the Tank and Santos, and Lange & Söhne, Jaeger le Coultre and IWC have their own niche where they are highly regarded. But the best-in-class asset in this segment is still Rolex.
Montblanc is the leading company in the field of fine writing instruments. However, this is a small market compared to jewelry and watches. So all in all, they have a good portfolio of luxury brands, but Cartier is clearly their most important asset.
Richemont H1 2023 Presentation
They have a 13-year streak of paying a consecutive dividend , and despite the reduction in 2020 due to COVID, they have also increased their dividend in every year. And with a CAGR of 17% through 2022 , they are also growing their dividend quite nicely. Thanks to their really strong cash position and ability to generate cash, there is no doubt that they could continue this streak.
As the number of shares outstanding has not changed significantly in recent years, there is currently no risk of shareholder dilution. But you have to keep in mind that the Rupert family owns 50% of the voting rights.
Major news in the last few days has been the secondary listing on the South African Stock Exchange and the launch of Enquirus , which they hope will combat the theft of luxury goods worldwide. Theft and robbery of people wearing luxury items is a big problem in some cities around the world. Even in a city like London or New York, people get robbed because of their watches and many people do not feel safe wearing their luxury items in such places. There are many people who claim that they like Dubai because this problem does not exist there.
Conclusion
If you are already a Richemont shareholder, I think you should hold your shares, but you should see how the situation with LVMH plays out. They are known for their aggressive buying of interesting assets and Cartier is definitely one of them and would be a perfect addition to their portfolio. If LVMH were somehow able to acquire Cartier from Richemont, it would have a massive impact on the value of their portfolio as they would lose their most important asset, which also represents a good part of their revenues. In terms of impact, it would be like Kering ( OTCPK:PPRUF ) losing Gucci. In the event of a takeover, it would be possible to receive cash for the shares, probably at a premium, or to receive shares from LVMH in a share swap.
So, in my opinion, Richemont shareholders would benefit from a takeover in which they would receive cash or shares, but if Richemont were only to sell Cartier, it would be bad news for shareholders.
If you are looking to build a new position, I think now is not the time as the stock is richly valued. An EV/EBIT of around 15 or lower would be better in my opinion, as this should lead to better long-term results. But as always with these high quality companies, they do not often trade at these levels. Or you could build a new position because you are betting on a possible takeover, but at the moment there are only rumors.
And I also think that there are some companies in the luxury segment that have a better risk-reward ratio because they have a better return on capital and they are just as expensive and they have a better portfolio in terms of the future.
For further details see:
Richemont SA: Cartier Is Their Crown Jewel, And It Needs To Be Protected