The LT3000 Blog got off to a seemingly inauspicious start by
posting a long thesis on KORS a day before the company’s 3Q result came in short
expectations, sending the stock down as much as 15% intra-day (10% by the close).
I increased my position by 50% at close to the daily lows of $35, reducing my
average in to US$39, and increasing the position size to 25bp of the fund. The
stock is trading up today early in the session at US$38, against a weak broader
market, so my position is only marginally underwater at present.
The 3Q result itself was actually broadly in line with
expectations. While headline sales and operating margins were down YoY, this
was already baked into guidance/estimates. Comp sales declined slightly faster
than expected (6-7%, vs. 5-6% expectations), but quarterly earnings actually
beat street estimates by a penny. The real issue was weaker 4Q outlook
commentary, where the company guided for an accelerated low-teen decline in comp
sales in 4Q, and reduced its 2017 fiscal EPS guidance from about US$4.40 to
about US$4.20.
I couldn’t care less. The result does not change my long
thesis in the slightest, because it is not based on an extrapolation of short term earnings
trends or any prediction about whether and when earnings turn. It’s based on the
fact that the stock is cheap. Stocks are seldom cheap when the outlook is good.
Stocks always bottom when the outlook is poor and uncertain. Most investors are
not willing to buy stocks in the face of considerable uncertainty. I am - particularly in
my basketed value strategies, where results are not dependent on any one
individual stock, only statistical averages.
I learnt a long time ago that in order to lose a lot of
money on a highly-rated stock, the
company need only have one bad year, whereas to make a lot of money in a
lowly-rated company, they need only have
one good year. My sense is that expectations for KORS are now so low that
merely one or two quarters of marginally positive comp sales will be enough to
send the stock up 30-50%. I like those odds. At present, it feels obvious sales will keep comping down for an extended period - even to me - but the future has a habit of surprising us.
Important is the fact there is comparatively little evidence
that KORS’s sales and earnings pressure are primarily due to company specific problems. The
entire luxury sector is going through tough times. Indeed, according to Morgan
Stanley, KORS net promoter score remains the highest in its brand peer group,
and KORS’s fiscal 2017 revenue guidance is also within a whisker of all time
highs, despite headwinds from a strong USD. Maybe the fairer sex will decide
they don’t want to own fashionable handbags in future years, but I seriously
doubt it. If KORS were suffering sales declines while its peers were performing
strongly, that would be a much greater cause for concern. There is a strong case to be made that KORS' problems are primarily cyclical, not structural, and yet the stock is being priced as if the issues are definitely structural.
Also being ignored is the company’s continuing strong FCF generation.
By 3Q17’s end, KORS has moved into US$150m net cash position, despite having
spent almost US$1bn on stock buybacks in the past 12 months (1/6th
of KORS’s current market cap). With an EV of US$5.8bn, the stock is currently trading
at 6.3x 2017 guided EBIT. That is cheap, even if earnings fall another 20% and
never recover.
Happy to stay long at these levels & to have had the opportunity to add more at $35.
LT3000
