Monday, September 3, 2012

VF Corp Equity Research Analysis

With weaker US retail sales recently, investors have been fretting over the retail sector in the upcoming earnings season. One company that consistently seems to buck the trend is V.F. Corp $VFC. It reported a super set of results, upgraded guidance and demonstrated that it can find growth drivers within a diverse portfolio of brands. The company had challenges in the quarter but seemed to pass them quite well.

The company is trending strongly this year and it raised EPS guidance to $9.50 following a previous hike in April to $9.45 from $9.30 at the start of the year. In addition forecasts for operating cash flow were raised due to better operational efficiencies. In summary, this is a well run company that has many positive trends in its favor.

VF Corp Stock

The name may be ambiguous but the brands are anything but! In fact, 70% of its revenues are generated by five household brands. In order of importance, they are The North Face, Timberland, Vans, Wrangler and Lee. It could be seen as a mid tier play that competes with the likes of the Gap Inc $GPS for purchasing bucks. Unlike the Gap, I like this company because it offers a diversified product range, whose products all tend to offer utility to its users, as well as being a fashion statement.
VF is attractive because it offers a compelling mix of growth drivers.
  • Rugged outdoor clothing, skateboarding fashion and Jeanswear have far less variable demand than much of fashion.
  • E-Commerce initiatives with the North Face and Vans will drive new revenue generation
  • Key brands are under-penetrated in Europe so the company can drive top-line growth even if the region is weak
  • The growing Jeanswear business in China is the most profitable for the group and good growth is forecast going forward
  • Geographic expansion opportunities offer the potential for growth. Potential to introduce new brands into China
However, it also faces a significant amount of challenges
  • Timberland has a very high portion of sales in Europe and is struggling there
  • Commodity prices are no longer so favorable. Cotton prices are not falling so much and other costs are rising. Margin expansion will get tougher.
  • European trading remains mixed
  • China’s growth is slowing so conditions may get tougher
  • Timberland inventory still needs to be run down following low sales due to a mild winter

VF Corp & the North Face

The North Face brand saw sales rise 14% globally with mid-teen growth in Europe and high growth in China. Essentially, this brand has benefited from a favorable secular consumer trend. The type of rugged outdoor clothing offered by the North Face has transcended its traditional outdoor sports market and is being increasingly warn as a kind of fashion statement.

For an analogy, think of how urban drivers seem to love driving off-road vehicles like a Range Rover because they think it gives them some sort of adventurous cache. I doubt many people wearing North Face products really do go mountaineering or trekking in the North Pole although many may think they do whilst strolling to a Starbucks in New York!

Europe is a concern here but the e-commerce initiatives in Italy & Spain plus new sites to be launched in Austria, Germany and the Netherlands (three of the strongest markets in Europe) offer the potential for growth. Eastern European expansion is also planned and although the company talked about Poland the printing presses should be stopped right now. I am currently in Hungary and have seen a boarding up for a North Face store in the top shopping street in the capital. Never say that the Motley Fool doesn’t give you exclusives!

Vans Keep Moving but Jeanswear Looks Tough

In a similar fashion, the Vans brand has been able to crossover from functional leisure gear to fashion wear. The company has high hopes for expansion in future. The plan is to add $1bn in revenues by 2016 from a figure of $1.2bn in 2011. What differentiates Vans from so much of retail at the moment is that it is able to generate strong growth in Europe thanks to its broad based fashion appeal.

In contrast the Jeanswear division is having difficulties in Europe. In the last recession European Jeanswear revenues declined and the company is facing similar challenges now. European denim demand is much more fashion oriented and the Wrangler and Lee brands are simply not as highly regarded as they are in the States. I would expect more challenges here.

On the other hand, these brands are much stronger in China. Unsurprisingly, Lee is a very popular brand in China and VF Corp is pinning its hopes in growth in this area because Lee’s brand appeal appears to be fading in the US, even if Wrangler is still solid.

Timberland Carrying Some Timber

The last of the major brands is Timberland. It is carrying some excess inventory thanks to a mild winter and it is also dealing with weak conditions in Europe. Given that Europe traditionally makes up 50% of its global sales, this is an issue.

The good news is the excess inventory situation was declared as improving in the quarter and management described the impact on sales from the downsizing of distribution as being ‘minimal.’ So far so good, but conditions are weakening so this issue isn’t finished yet.

Where Next For VF Corp?

More of the same please. The company needs to carry on executing with its core strategy of leveraging favorable consumer trends within North Face and Vans. E-commerce initiatives also need to be successfully completed. The biggest concern comes with the inventory at Timberland and the ongoing weakness in Europe with both Timberland and Jeanswear. It’s hard to see how Lee can be turned around quickly (ex-China) but the company can continue to develop the work wear aspect of its Jeanswear in the States. China offers the strongest growth prospects as its brands are under penetrated and growth remains strong.

In conclusion, I think the stock is fairly valued right now. It is very attractive but it also faces challenges and in an uncertain environment. Long term investors might want a cheaper entry point in order to guarantee a bigger margin of safety.

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