3 Reasons to Invest in PVH Corporation

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

PVH Corp (NYSE: PVH) was founded in the 1950s. Since then it has exhibited outstaning performance and holds one of the best clothing brand portoflios in the Industry. Emanuel Chirico, Chairman and Chief Executive Officer, stressed this concept: “ 2012 marked another year of strong performance and sustained growth for PVH, exceeding our expectations. The strength of our brand portfolio, led by Calvin Klein and Tommy Hilfiger, enabled us to navigate successfully through the global macroeconomic pressures and associated difficult consumer spending environment…”

PVH recently acquired Warnaco, which positions PVH as the second largest global branded apparel company. I am positive on this company considering  additional growth opportunities and PVH´s track record of success with acquisitions. In addition, Management expects EPS growth of 15% per year CAGR in the period 2013-2015.

With this idea in mind, let’s take a look to 3 key advantages of PVH:

Strategic acquisition

Since the 1st of November 2012 Warnaco is part of PVH. PVH has paid $51.75 for the company and 0.1822 shares of PVH common stock, so the total effective acquisition price is more or less $3 billion.

This acquisition seems to be the starting point for the consolidation of Calvin Klein brand’s control. As Warnaco did generate 23% of global Calvin Klein retail revenues this would provide PVH a powerful tool for competing in the apparel market.   

The idea is to increase year by year the control of the brand so as to increase the revenue share and expand margins. In fact, Credit Suisse estimates that the combined enterprise should reach $12.00 in EPS in the long term.

Some advantages that can be reached with this consolidation are:

  • US’ off-price channels would be reduced.

  • The takeover is expected to contribute $100 million in additional annual revenue in the long term. It is important to bare in mind that $175 million was the acquisition cost.

  • Productivity would be improved all over the world and in particular in Europe. Before the acquisition Calvin Klein had 27% of its sales from Europe and is expected to rise sales in that country as a consequence of the using Tommy Hilfiger channels and experience.

  • Deepen penetration in Asia and Pacific (it 2011 these regions represented 18% of the sales and $525M in 2012E revenue) and Latin America ($200M in 2012E revenue.)

Warnaco’s acquisition is an important piece of news for investors as it would take the opportunity of controlling products lines and its distribution. In 2011 Warnaco’s retail sales were approximately $2.8 billion. Therefore, earning power and brand equity shall be higher in the following years.

PVH could experience significant growth in both big and small brands

It is well known that Calvin Klein is one of the most profitable brands in PVH. One particularity of Calvin Klein is that relies on a strong license model, that is why, the reacquisition of Warnaco license would allow PVH to have more control in the products.

Therefore, it is important to take into account the potential benefits that PVH would have if it reacquires all Calvin Klein licenses. In order to have some numbers in mind: in 2011 Calvin Klein revenue was $1.1 billion, its operating income $278MM and its operating margin 26.1%. Now think the optimization that would be generated by the concentration of licenses and how would earningsreact. Credit Suisse estimates that Calvin Klein alone would have a CAGR of 6-7% by FY15-17 which is greater than the average 3% annual growth that this brand has been experiencing. Undoubtedly, PVH is making a smart strategy but it must take place carefully and gradually so as to generate the profits necessary to pay the new debt ($3.687 billion).

However, PVH does not only relies on the strategy of growth by acquisitions. If you look at recent news you will find that PVH has entered into a license agreement with Comercio Excelente. This would help to expand a less known brand as IZOD to the Mexican marketplace. Something similar took place in 2006 when Van Heusen and Geoffrey Beene started to been distributed to that marketplace. Moreover, if the results go in the right way, it is very probable to extent IZOD to the rest of Latin American.

Why is important the expansion of IZOD to Mexico? First of all, Mexico is the biggest luxury market in Latin America, as it represents the 55% of the luxury market in Latin America. As a KPMG’s studio reveals, 5.2% of the population in Mexico buy luxury goods, one of the highest percentages in Latin America. According to Boston Consulting Group the growth of the Mexican luxury market is expected at 15% CAGR until 2017.

Wider geographical reach

This third reason is very linked with the two that I have explained before. It is not less important that the growth of the brands will be driven at a certain extent by the brands’ geographical reach. Warnaco’s reacquisition as well as IZOD licensing would provide different channels to extent the brands in emerging markets such as Latin American and Asia. Warnaco’s penetration has grown 5% in Asia and 20% in Latin America by the end of 1H12. For example, 39% of Calvin Klein underwear and jeans revenues come from those marketplaces. It is very important for PVH to have an important role in emerging markets as 50% of global luxury goods sales are made to the risisng emerging market consumer. For example, the Chinese market for luxury goods is rapidly growing, showing a CAGR of 25% in the period 2008-2011.

Valuation

Let´s compare how the market values PVH Corporation agains its peers:


The companies with the highest margins are VFC Corporation (NYSE: VFC) and Michael Kors (NYSE: KORS). Each has a stronger ROE than PVH.

For example, Michael Kors trades at a P/E of 32x and a P/S of 8.6x which seems overly excessive compared to PVH´s P/E of 18x and P/S of just 1.47x. While PVH Corp does not offer the same level of growth and margins of Kors it provides stability and much higher diversification.

VFC Corporation is an outstanding company, with both high ROE (22.5%) and high net profit margins of 9.98%. Similar with Michael Kors, this great numbers come at a price: it trades at 3.68x its book value and 1.75x sales compared to PVH´s P/BV of 2.46x and 1.47x sales.

In conclusion, while PVH Corporation is not the best stock compared to its peer group, is undoubly one of the leaders in terms of margins, ROE and stability. Different from Kors, it is not priced for success and I think that is positive for long term oriented investors.

Conclusion

As PVH closed the acquisition of Warnaco Group Inc, it could benefits from $100 million in run rate synergies and expanded distribution. This acquisition positions PVH as the second largest global branded apparel company, providing additional growth opportunities. I expect the combined entity to generate $8.0 B in sales and $1.1 B in EBIT, implying an operating margin of 13.3% compared to stand-alone margins of 12.2%.



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