Michael Kors in vogue on Wall Street, but valuation risk grows

Reuters - UK Focus

By Siddharth Cavale and Devika Krishna Kumar

May 29 (Reuters) - Dazzled for two-and-a-half years, WallStreet finally blinked when Michael Kors Holdings Ltd warned that its margins might suffer from the cost of openingstores in Europe.

A pullback in the stock on Wednesday lasted only a fewhours, investor confidence quickly restored by a revenueforecast that reinforced Michael Kors (Frankfurt: MKO.F - news) as the pre-eminent brandin affordable luxury.

But for a stock that has quadrupled since its New York (Frankfurt: HX6.F - news) listing in December 2011, the hiccup betrayed investors'uneasiness about a valuation that towers above that of itspeers. How, they ask, can breakneck growth be sustained?

"It's going to get a little bit harder from here," saidWells Fargo Securities analyst Paul Lejuez, who has a pricetarget range of $86 to $90 on a stock which closed on Wednesdayat $97.01.

Kors's shares were down about 5.5 percent at $91.68 inafternoon trading on Thursday.

There is plenty of room to usurp luxury brands in Europe inthe same way that Michael Kors has eclipsed rivals such as Coach (Frankfurt: COY.F - news)Inc in the United States. At home, brand loyalty,e-commerce and a shift into department stores also promisegrowth.

For investors, the biggest risk lies in the valuation. Korstrades at 23.69 times forward earnings, higher than an industrymedian of 17.27 times, according to Thomson Reuters (Frankfurt: TOC.F - news) data. Coachtrades at 14.64 times forward earnings.

Kors's stock should be trading at $58.41, according toStarMine's intrinsic valuation model, which takes analysts'five-year estimates and models the growth trajectory over alonger period of time.

"Top (Taiwan OTC: 8419.TWO - news) -line momentum can't be denied, but with marginspotentially peaking, there are fewer ways to win going forward," Sterne Agee retail analyst Ike Boruchow wrote in a note. He hasa "neutral" rating and a price target of $100 on the stock.

With a market capitalization of $19.8 billion, the companyfounded by fashion designer Michael Kors has already grownbigger than Coach (NYSE: COH - news) , which is valued at about $11.2 billion.

Marketing savvy has secured a loyal following online.Michael Kors' Facebook (NasdaqGS: FB - news) page has 13.8 million likes; Coach, abrand that has been around for much longer, has 5.3 million.

One false step, though, and the stock has a long way tofall. Jefferies & Co analyst Randal Konik bumped his pricetarget up to $95 on Thursday, but has a "hold" recommendation.

"History reminds us that Coach was once the 'it' brand inaccessible luxury, as KORS is today," he said.


Revenue up 39 percent or more every quarter since goingpublic. Sixteen straight quarters, stretching back to before theIPO, of same-store sales growth in excess of 20 percent. Grossmargins consistently above 57 percent.

Every statistic thrown up by the company points to thepopularity of its clutches and wristlets, which can cost aslittle as $100, of its watches that retail at between $150 and$550, and of snakeskin handbags that carry a $3,000 price tag.

Wednesday's warning that gross margins are expected to fallin the next few quarters was unusual enough to precipitate asudden 4 percent drop in the stock, which had been up 8 percentbefore the bell. The shares recovered to close up 1.3 percent.

The short-term margin pressure, however, is part of anexpansion into Europe that could be the next pillar of growth.Kors will open 55 stores in Europe in its financial year toMarch 2015, adding to the 80 already open.

"Rather than 'overearning' in the near term and deferringlarge investments and expenses, management is choosing tore-invest some of that margin," said Janney Capital Marketsanalyst Adrienne Tennant, who has a "buy" rating.

The plan, eventually, is to have as many as 200 stores inEurope, a region where fourth-quarter sales more than doubled.

Sam Rines, equity analyst at Chilton Capital Management,said he believed Michael Kors could create a niche of its own.

"Europe has a deeply ingrained fashion mentality with noshortage of well-known, high-end luxury retailers," he said."But aside from possibly Burberry, there are few accessibleluxury brands."

The company is also reaching more customers back home.Familiarity helps: Kors himself, who retains a small stake inthe company, is a well-known face after a long run as a judge onTV show "Project Runway."

The company has also been upping its presence in bigdepartment stores such as Macy's and Nordstrom (NYSE: JWN - news) , convertingits own stores into branded shop-in-shops that sell only some ofits products, but reach a bigger audience.

At least five brokerages, including Wedbush Securities andGoldman Sachs (NYSE: GS-PB - news) , raised their price targets on Thursday by as muchas $14 to within a range of $110-$134. Each maintained a "buy"or similar rating on the stock.

"With its international growth story still in its nascentstages," said Janney Capital's Tennant, "we believe the positivemomentum, driven by increasing brand awareness and customerloyalty, will continue for many quarters to come." (Editing by Robin Paxton)

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