Tiffany Poised to Continue Fall

By Tom Gibbs - May 27, 2012 | Tickers: COH, LVMUY, RL, TIF | 0 Comments

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The luxury goods sector has been a rather mixed bag since the industry initiated its rebound from post-2009 trough levels.  Top lines in most of the industry’s niches – leather goods, watches/jewelry, upscale apparel, etc. – have generally increased year-over-year, yet continued spending on operational rightsizing, rather volatile prices in raw material markets, and a slight pull back in consumer confidence levels have translated into a less-than-robust jump in company profits. 

Undoubtedly one of the most disappointing performers as of late has been jewelry retailer Tiffany & Co. (NYSE: TIF), which hit a new 52 week price low following the release of its Q1 2012 filing.  Coming off a relatively weak performance in Q4 2011, the corporation posted:

• EPS of $0.64/share, 5% less than Q1 2011 (factors out one-time charge of 4 cents per share after tax in the quarter)
• 10 basis point drop in gross margins in the quarter as compared to same quarter in 2011
• Weak performance in mature markets: Sales in the Americas and Europe both increased a slight 3%, and comparable store sales in both markets were flat

The saving grace for the jewelry retailer was its increased penetration into emerging markets, yet despite the continually increasing sales in Asia/Pacific and Japan (sales increased 17% and 15%, respectively, for both markets in the quarter), Tiffany has released weakened full year 2012 sales and earnings guidance. 

Even with the correction in price during trading on Thursday – the stock closed down 7.7% but fell by as much as 10.7% in intraday trading – there are several signs that Tiffany’s has not yet reached the bottom.

Jewelry Market is Slowing

It would be one thing to say that tweaking Tiffany’s own operations amongst a generally improving jewelry market will yield improved performance in the near future.  It is more troubling to note the reality: stagnated growth in Tiffany’s industry, following a swift rebound from mid-recessionary lows, implies that most performance improvement will come from market share gains in an extremely fragmented competitive landscape.

MasterCard’s recently released SpendingPulse report, which tracks retail sales across all payment forms, has shown that the jewelry market has taken the largest hit among all generally slowing luxury good sales.  Following a meaningful 13.0% and 6.7% jump in Q4 2011 and Q1 2012, respectively, luxury sales as a whole slowed to a more manageable 1.8% increase in April.  Sales in the jewelry category experienced much less robust improvements in each of the comparable periods: 7.4% increase in Q4 2011, 5.3% increase in Q1 2012, and a 3.7% decrease this past April.   

The data holds up when comparing Tiffany’s recent performance with other players in the broader luxury goods industry:

• Coach (NYSE: COH) -- 16.6% sales increase in Q1, ten basis point gross margin increase shows continually improving pricing power
• Luxury conglomerate Moet Hennessy Louis Vuitton (NASDAQOTH: LVMUY) -- 25.0% increase in sales in Q1, with strong performance in fashion/leather, wine/spirits, and perfumes product categories
• Ralph Lauren (NYSE: RL) -- 13.7% Q1 sales increase, four consecutive quarters of double digit revenue jumps

As outlined in MasterCard’s report, restrained spending from tourists (a large majority of luxury sales are from travelers in large cities), the continued overhang from macro issues in the European market, and a pull back in the strength of the wealth effect (S&P down 7% since 2012 highs in March) will continue to drive only modest increases in the luxury goods market. 

Spending Will Increase

Tiffany’s plan for new store growth will undoubtedly contribute to longer-term revenue increases, although at the expense of mid-term profits.  The corporation has intentions of launching an additional 20 outlets throughout the remainder of 2012, and projects $240 million in capital expenditures for the full fiscal year – about on par with 2011 spending levels.  With total capex in Q1 down more than 15% from the comparable period in 2011, however, an accelerated level of spending will take place in the three remaining quarters.  Will the market, with the combined effect of slower top line growth, margin strain, and increased spending, be able to stomach more consecutively poor quarterly results?  An already low confidence in the corporation’s mid-term prospects will undoubtedly continue to falter if a sign of turnaround is not on the horizon. 

The Stock is no Less Expensive

The pull back in Tiffany stock following the release of its Q1 report was a simple price correction – the market valuation is still the same.

• Pre-quarterly report price of $62/share with estimated EPS $3.95 - $4.05 = forward P/E 15.3x – 15.7x
• Post-quarterly report price of around $57.60/share (yesterday close) with EPS guidance of $3.70 - $3.80 = forward P/E 15.2x – 15.6x

Is the market willing to pay the same amount for the corporation with the less robust mid-term growth prospects and virtually no near-term catalysts toward improvement?  Tiffany is due for a continued pull back – albeit one of modest proportions as the long-term story for the corporation has not changed much – before it will have the potential opportunity for meaningful price appreciation.

Is Guidance Too Optimistic?

Tiffany’s updated EPS and sales growth guidance do represent a substantial decrease from original company estimates, yet are they attainable?  At the current number of diluted shares the updated EPS and sales guidance implies a net margin slightly north of 12.0%, which is not too far removed from the level of profitability (pre-one time charge) experienced in 2011. 

This time around, however, the retailer has many more headwinds toward attaining such a goal: continued pressure on gross margins, 25+% jump in interest and other expenses due to additional debt incurrence, increased capex over remainder of year, etc. 

The long-term growth story of the corporation is one to catch the attention of any investor.  Tiffany has an unbeatable level of brand awareness, and is poised to grab a disproportionate amount of the growth in the upscale jewelry sector in most of the world’s emerging markets.  However, even with the market’s meaningful sell off of Tiffany stock following its second consecutive period of poor performance, there are too many hurdles to jump before the stock will have the opportunity to gravitate back toward its 52 week highs.  Investors should set their sights elsewhere and not get overexcited about the “value” opportunity supposedly available on Tiffany stock. 

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