Coach Priced Cheap Lifts Takeover Odds: Real M&A
Coach Inc. (COH)’s handbags and heels are offering buyers one of the biggest bargains among luxury brands.
Shares of Coach have lost 17 percent since faster-growing rival Michael Kors Holdings Ltd. went public in 2011 and began an almost threefold rally. Even though Coach has the widest profit margins among peers, the $14 billion company is trading for only 13.6 times earnings, lower than 96 percent of similar- sized rivals, according to data compiled by Bloomberg.
Coach’s valuation and cash generation -- enough to give it the third-highest free cash flow yield among peers -- could attract private-equity firms, Atlantic Equities LLP said. LVMH Moet Hennessy Louis Vuitton SA (MC) and PPR SA may be among suitors drawn to its margins and the chance to expand Coach beyond the U.S. and Japan, which generated 86 percent of its sales last year, according to AIM&R. A buyer would have to bid at least 32 percent more than yesterday’s close, Edward Jones & Co. said.
“If you’re out there looking for a deal, it meets a lot of metrics,” Brian Yarbrough, a St. Louis-based analyst at Edward Jones, said in a telephone interview. “There is still growth available. They have a great brand. They generate a ton of cash. They have a great balance sheet. What’s not to like about it?”
Andrea Resnick, a spokeswoman for New York-based Coach, declined to comment on the company’s takeover prospects.
Coach, which sells accessories including purses, shoes, wristlets and sunglasses, has seen its shares fall 38 percent since last year’s peak. The retreat comes as Coach’s growth stagnates amid competition from other handbag makers such as Michael Kors, Tory Burch LLC and Fifth & Pacific Cos.’s Kate Spade.
Coach said in January that it failed for the first time to gain or hold North American handbag market share in its latest quarter. Michael Kors, a $12 billion company based in Hong Kong, posted fiscal 2012 revenue growth that was four times faster than the 15 percent pace at Coach.
“Coach is seeing some slight erosion among the key constituencies of fashionistas and heavy handbag purchasers,” Faye Landes, a New York-based analyst at Cowen Group Inc., wrote in a March 4 note to clients. Michael Kors will “continue to build on its strong position with consumers who care about fashion.”
The slump in its stock left Coach trading yesterday at 13.6 times earnings, 62 percent less than Michael Kors and cheaper than 27 of 28 other apparel, footwear and accessories designers as well as specialty apparel companies valued at more than $5 billion, according to data compiled by Bloomberg. The median price-earnings ratio was about 19.2.
Still, Coach’s profit margin of 23.5 percent and operating margin of 35 percent last quarter surpassed the figures at all peers, according to data compiled by Bloomberg.
The low valuation makes Coach vulnerable to a takeover, according to Albert Saporta, managing director of Geneva-based AIM&R, an alternative investment research firm.
“It’s by far the cheapest brand name you can find listed in the U.S. or even in Europe for that matter,” Saporta said in a phone interview. “Somebody could make an opportunistic bid.”
Private-equity suitors may find Coach’s balance sheet, free cash flow and return on invested capital attractive, Daniela Nedialkova, a London-based analyst at Atlantic Equities, said in a phone interview. Coach had $22.7 million in total debt as of Dec. 29, compared with free cash flow of $1.05 billion during the prior 12 months. The handbag maker’s free cash flow yield of 7.5 percent yesterday bested 92 percent of peers, data compiled by Bloomberg show.
A private-equity buyer could also accelerate Coach’s international expansion much more rapidly in the face of the domestic pressure from Michael Kors and other handbag makers, according to Yarbrough of Edward Jones.
“If you’re private, you can do a lot more things,” he said. “You can pull a lot more leverage and be a lot more aggressive on the growth side than you can when you’re public. And that’s the thing. They generate so much cash. You could ramp up their international efforts probably two to threefold compared to what they’re doing.”
A buyer would need to pay at least $65 to $70 a share for Coach “to get the management team and shareholders interested,” Yarbrough said. The shares closed at $49.28 yesterday. Today, they gained 1.7 percent to $50.10.
In addition to private-equity firms, Coach’s international expansion opportunities, cash flow and high margins may also attract luxury conglomerates such as LVMH and PPR (PP), AIM&R’s Saporta said.
Molly Morse, a U.S.-based spokeswoman for LVMH at Kekst & Co., and Helene Saint-Raymond of PPR, declined to comment on whether their companies would be interested in Coach. Both are based in Paris.
Revenue growth at LVMH is projected to slow this year to the worst rate since 2009, according to the average of analysts’ estimates compiled by Bloomberg. In May 2010, PPR Chairman and Chief Executive Officer Francois-Henri Pinault said the company wouldn’t target Coach as it’s “a bit expensive.” Coach shares have gained 26 percent since then.
The potential size of any transaction makes a takeover unlikely, David Glick, an analyst at Buckingham Research Group Inc., wrote in a Feb. 27 note to clients.
“This deal would be one of the largest in retail and there could likely be only a few potential buyers who could execute a deal of this size,” Glick wrote.
While size is the “biggest barrier” to a takeover, the company’s high margins also mean there might not be much opportunity for private-equity firms to make operational changes, according to Liz Dunn, a New York-based analyst at Macquarie Group Ltd.
“It’s already a well-run company; it’s just a well-run company that’s trading at a discount valuation,” Dunn said in a phone interview. “Over time the market will appreciate the future growth opportunities.”
Still, mergers are accelerating, according to data compiled by Bloomberg, with the value of deals announced worldwide last quarter at the highest level since the financial crisis. Two blockbusters were announced in the past month: the $28 billion purchase of H.J. Heinz Co., and the $24 billion takeover of Dell Inc.
Coach offers cash flow and international growth, “two ingredients that would help make a buyout possible,” David Schick, a Baltimore-based analyst at Stifel Financial Corp. wrote in a Feb. 27 note to clients. The company is in the process of transition, and “this period of uncertainty could provide an interesting entry point to strategic, financial or management buyers.”
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