Finding Value in Coach (COH)

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May 04, 2013
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Background

Coach Inc. is one of the most recognized brands in the luxury goods industry. It is a leading marketer of fine handbags and accessories for women and men. Coach was established in 1941 and sold to Sara Lee for $30 million in 1985. Sara Lee Corporation then sold 19.5% of the shares in an IPO in October 2000. Since listing on the New York Stock Exchange, Coach Inc. (COH, Financial) has grown to be the number one brand of premium handbags and accessories in the U.S. market.

Business Model

Coach’s merchandise is sold through Coach stores, factory outlets, department and specialty stores, duty-free locations in airports and online. Coach Inc. has two business segments, Direct-to-Consumer and Indirect. Over 85% of the company’s sales are generated by its Direct-to-Consumer segment, with the majority of the sales coming from handbags and accessories.

Coach markets its products as “accessible luxury.” Its pricing strategy for a handbag ranges from $298 to $1,000, which means that its product reaches a larger consumer demographic than other high-priced competitors such as Louis Vuitton and Prada which focus on the very wealthy. The strategy of targeting the higher and upper middle income shoppers differentiates Coach from its competitors and also helps to establish it as the poster child of tapping into this global trend of consumers wanting to trade up in the quality and style of what they buy.

As Warren Buffett said, “In business, I look for economic castles protected by unbreachable moats.” Coach Inc. has a narrow moat and a competitive advantage. It has a strong brand presence in the luxury market, not easily eroded by other competitors. New competitors in the luxury brand industry would have to spend a large amount of money and resources to build up competitive brand awareness and image. Coach also has consumer loyalty as it has been delivering high-quality products that are simple and reliable, with a perceived value.

To further grow the business, Coach has outlined its strategy as:

1) Raising its brand awareness and market share in the under-penetrated Asian market with China being the top targeted market

2) Growing its women’s business in the North American and European markets

3) Increasing its men’s business in North America and Asia

4) Maximizing e-commerce sales

Why is Coach a Screaming Buy?

Coach Inc. (COH) is a great company to invest in for a multitude of reasons. Coach has executed its strategy successfully over the past decade. Its revenue has grown progressively every year at a compounded growth rate of 21%. This is a mean feat considering that it is in a highly competitive sector. It has also shown that it is able to grow through strong or weak economies as evident by the increase in sales in 2009. The ability to keep increasing revenue shows the strength of its pricing strategy.

Coach has maintained high gross margin and net margins. A high gross margin signals a market leader position and pricing power. The gross margin has averaged 74% over the past 10 years while the average net margin is 24%. In fact, Coach has the highest margins as compared to its competitors.

Coach has no long-term debt on its balance sheet. Its financial metrics of Return on Equity (ROE) and Return on Asset (ROA) are impressive with ROE consistently above 35% and ROA above 25%. Operating cash flow has been positive for every year for the past decade. With the growing, free cash flow, Coach has been returning a large percentage of this excess cash to its shareholders by actively purchasing back shares. Besides share buyback, Coach has doubled its dividend payout in the past three years.

To know more about Coach, I recommend reading the following articles:

Put me in Coach

Coach Inc: An undervalued luxury stock

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Disclaimer: This is not a buy or sell stock tip. Please do your own research.

Value investing blog: http://valuestocksinvesting.blogspot.sg/