This Iconic Company Won't Stop Growing

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

Founded in 1967, Ralph Lauren (NYSE: RL) has amassed a wide array of product lines that has garnered an unusually strong following around the world. The company's products range from men's suits to bed sheets to baby clothes. Each of its labels caters to a specific need at a specific price point. Its strong brand name and diverse offering have enabled it to become one of the most successful retail brands on the planet.

Comparables

Ralph Lauren is even more impressive when viewed in light of its competitors. For instance, PVH Corp (NYSE: PVH), owner of brands like Calvin Klein, IZOD, and Tommy Hilfiger, also leverages its brands to create outsized profits. However, PVH has not had nearly as much success as Ralph Lauren. PVH owns a collection of brands that are sold and marketed around the globe, but Ralph Lauren has just one brand behind all of its products. This affords it economies of scale in marketing and has enabled it to achieve iconic status in the minds of consumers.

Ralph Lauren has been expanding its product offering beyond clothing for decades, but is just now making a stronger push into handbags and leather accessories. The company's main competitor in this product segment is Coach (NYSE: COH), which has leveraged its strong brand to become the market leader for its price point.

Coach has a strong brand. It is difficult for companies to compete with Coach unless they are either ultra-high end or have a strong brand. Ralph Lauren is one of only a handful of retailers who could enter the market and compete effectively against Coach.

And competing effectively in this market has enormous benefits. Coach's products receive a considerable markup in stores.

This is partly due to the product and partly due to Coach's strategy of owning its retail stores, which allows it to control the sale price. As Ralph Lauren moves deeper into the handbag market and adds to its own portfolio of retail stores, its margins will rise as well.

Growth Strategy

Since 2003, Ralph Lauren has grown sales at an annual rate of 12.17% and it does not intend to slow down any time soon. The company has been buying up licenses previously sold to other manufacturers for many of its brands; this allows the company to have total control over its products and prices, which is essential for maintaining its brand image.

The company has identified Europe and Asia as the areas to focus on for expansion. It plans to build out a significant retail presence on these continents while tempering growth enough so as not to dilute its brand.

Valuation

The company is growing like crazy, the brand is iconic, and there are plenty of places in the world that do not have proper access to Ralph Lauren products. However, the market is more than aware of Ralph Lauren's bright future and has priced in considerable growth.

The stock trades at 22.5x last year's earnings and 10.3x EV/EBITDA. The company has averaged $750 million in free cash flow over the last four years, so it effectively trades for 20x trailing free cash flow. If, through entry into higher margin product categories and international expansion, the company can generate $1 billion in free cash flow in an average year, then the company trades at a more reasonable 15x normal free cash flow.

But investors in Ralph Lauren today must believe that significant growth will happen quickly. It's not out of the question, and may even be probable, but I'd hate to buy it here and be wrong.


titans8904 has no position in any stocks mentioned. The Motley Fool recommends Coach. The Motley Fool owns shares of 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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