This Profitable Luxury Stock Is Undervalued

Andrés is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Companies like Tiffany (NYSE: TIF) and Polo Ralph Lauren (NYSE: RL) have a very special privilege: They can charge higher prices for their products than the competition does, and they don't lose customers because of that. Even better, that higher price tag is a marketing tool, a symbol of status and differentiation that their clients appreciate.

Successful luxury brands can be spectacular value creators, as higher prices at the sales point usually mean better profitability for companies and their shareholders. Besides, great brands are one of the strongest kind of competitive advantages a company can have, protecting the business from other players trying to take away a piece of their cash flows.

Almost anybody can manufacture a pair of yoga pants, but in order to charge $100 that kind of product, you need a Lululemon (NASDAQ: LULU) logo on them. The company has been tremendously successful at selling sports clothes for multiples of what similar products cost in the market, delivering a 46% annual increase in sales over the last five years and retaining juicy gross profit margin of more than 55% of the sales  price.

Michael Kors (NYSE: KORS) doesn't need to spend a lot more than other companies to manufacture a purse. Maybe it has higher marketing expenses or it spends a few more bucks to have its stores well decorated and placed in the right locations, but that's more than compensated for by the product price. The numbers speak for themselves: The company has delivered a 44% annual increase in sales for the last five years while sustaining gross margins in the 57% zone.

Luxury brands can be very fertile ground in which to search for outstanding companies to hold for the long term, and Coach (NYSE: COH) looks like a particularly attractive buying opportunity right now. This marketer of high end bags, shoes and accessories has recently taken a plunge due to disappointing quarterly results. Although some weakness can be expected in the middle term, the business hasn't lost any of its fundamental attributes.

Last quarter brought some uninspiring sales figures in the US, and management has announced 2013 to be a year of heavy investing as the company expands into high-growth Asian markets, where the brand is notoriously well received. Macroeconomic headwinds and higher capital expenditures are a factor to watch, but the company is fundamentally very strong.

In fact, during the last “disappointing” quarter, Coach reported a 12% increase in sales and 27% more in diluted earnings per share, figures which would make many other companies in the industry tremble with envy. If that's seen as a lousy quarter, generating a 16% price fall after the announcement, it’s probably because investors are used to extraordinary performance from the company.

There are solid reasons to expect outstanding numbers from Coach; the company has an excellent track record of delivering solid earnings per share through changing economic conditions, combined with sky high profitability ratios. The comparative table show than Coach has profitability levels - ROE, gross margin and operating margin ­­- above any of the companies in the group. We are talking about the most profitable company among a bunch of very profitable businesses, not something you see every day.

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And the price looks convenient too; shares of Coach are trading at a P/E near 15, which is cheaper than any other company in the table, and also quite attractive by historical standards for the company.

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You don't usually find high-quality products from distinguished brands at big discounts on the stores, and when you do, you know that's an opportunity. The same criteria should maybe be applied to shares of Coach now that the price tag looks particularly cheap for this exceptionally profitable company.

acardenal owns shares of Coach. The Motley Fool owns shares of Coach, Lululemon Athletica, and Tiffany & Co. Motley Fool newsletter services recommend Coach and Lululemon Athletica. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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