Don't Buy Nordstrom, Coach... Too Expensive
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Is now the time to get into luxury goods? Coach (NYSE: COH) rose 7.6% at the end of last week's trading. Nordstrom (NYSE: JWN), while marginally down from last week, has still steadily gone up 17.8% over the last three months - outperforming the S&P 500 by more than 2x.
When you look at the fundamentals of the stocks, however, you will see that what glitters is not necessarily gold. Nordstrom trades at a respective 18.3x and 14.5x past and forward earnings with a high debt-to-equity ratio of 1.7x. The stock has 64% more volatility than the broader market, and annual EPS growth forecasts over the next 5 years of around 3x what we have during the past 5 years sets the bar simply too high.
Even if Nordstrom was able to achieve the kind of growth analysts say it well (12.1% annually), it still is not cheap. In fact, it's overvalued. If analysts are right, 2016 EPS will come out to around $5.95, which, at a 15x multiple, translates to a future stock value of $89.25. Discounting backwards by 10% yields a present value of $55.42. The stock currently trades at nearly $58. The rise since June may have been impressive, but all hills have their peaks, and there is no peak without a fall.
Fundamentally, the trends haven't been that great and there is little reason for the stock to be at a premium to the historical 15.1x 5-year average. Free cash flow for the TTM ending 2Q12 was $554 million. This compared to $746 million in 2Q11 and $687 million in 2Q10. Why would you buy a stock that is at a premium when it has failed to deliver? Why would you buy when it is overvalued based on aggressive growth forecasts?
Coach is in a similar but still better boat. It trades at a respective 17.5x and 13.9x past and forward earnings with a dividend yield of 1.9%. Volatility is 58% greater than the market average, but the balance sheet is clean, and the quick ratio stands at 1.8x - the last of which indicates that assets are not being tied up in inventories. Analysts forecast 14.5% annual EPS growth over the next 5 years, but this is believable since growth has been 15.9% annually over the past 5.
Earnings have also been better than expected by an average of 3.1% over the past 5 quarters. Despite having better operational trends than Nordstrom, the stock is closer to its historical 5-year average PE multiple (16.9x). FCF for the TTM ending 2Q12 was $1 billion versus $885 million in 2Q11 and $910 million in 2Q10.
I still do not believe the company's niche focus on the upscale market is worthy of a "buy." The multiple is still high given how uncertain the economy is and competition is intense. If the economy moves down, consumers go away. If it moves up, new entrants emerge to steal the consumers. Retailers like Target and J.C. Penney appeal to a variety of income classes and are thus less vulnerable to this effect. I would recommend buying them over Nordstrom right now.
TakeoverAnalyst has no positions in the stocks mentioned above. The Motley Fool owns shares of Coach. Motley Fool newsletter services recommend Coach. 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.
