Market corrections can be exciting for long-term investors given that they provide an opportunity to buy shares in great businesses at an attractive price.
The caveat however, is that market corrections stemming from economic weakness can make this more challenging, especially in the Retail Sector.
The reason is that recessionary environments can lead to a considerable pullback in consumer spending, making it difficult to accurately forecast fair value and how the next year might look when regular spending patterns could get turned on their head.
Fortunately, luxury companies are typically insulated from the pullback we often see in consumer spending.
They benefit from a more affluent customer base that isn’t forced to change spending habits with rises and falls in gas prices or a steady trend higher in grocery costs.
This was certainly the case last year, with several companies like Ferrari (RACE) reporting double-digit sales, and Tapestry (TPR) also enjoying solid sales performance and record annual EPS.
Another name following this trend and leading the luxury group off the Q3 lows was Capri Holdings (CPRI), but the stock was recently derailed following a guidance cut and softer outlook for the back half of 2023.
The good news is that this appears to be opening up a buying opportunity, with the stock approaching a key support near $45.00.
Recession-Resistant Retailer On Sale
Capri Holdings is a ~$6.0 billion stock in the Luxury Retail industry group with three iconic brands: Versace, Jimmy Choo, and Michael Kors.
This new name for the company was adopted following its acquisition of Versace in 2018.
The company has steadily increased earnings and sales since 2019, with annual EPS improving from $4.97 to $6.21 and revenue up to $5.65 billion despite having to wade through a global pandemic and continued waves of COVID-19 in China.
Following the release of its blowout FY2022 results last summer (12 months ended April 2nd, 2022) where it reported record revenue, a 230 basis point improvement in operating margins and announced a $1.0 billion share repurchase program, the company was clearly a little too ambitious about FY2023, guiding for revenue of $5.95 billion (6% growth) and annual EPS of $6.85, representing 10%+ growth if achieved.
Unfortunately, this outlook proved far too optimistic with fiscal Q3 2023 revenue sinking 6% year-over-year (flat on constant currency basis) to $1.51 billion and margins also taking a bit of a beating, with quarterly EPS down 17%.
Given the fiscal Q3 miss, Capri Holdings reeled in its FY2023 guidance, impacted by softer performance from its global wholesale business that resulted in expense de-leveraging and a hit to margins.
The result was that revenue was guided down to $5.56 billion (down year-over-year vs. 6% growth) and annual EPS was revised to $6.10 (down 2% year-over-year) vs. a previous outlook of 10% growth.
Not surprisingly, the stock was punished on the news with its ebullient outlook revised to dreary in the eleventh hour with just one quarter to go.
While this short-term pressure is undoubtedly disappointing for investors that overpaid for the stock, the company continues to see strong growth across all three of its luxury houses.
And it now has the opportunity to complete opportunistic share repurchases at bargain levels (less than 8x earnings) despite no real change to the long-term outlook.
In fact, Capri is confident that it can grow sales to $8.0+ billion long-term with 20% operating margins, with growth in its Asia business and significant growth in its retail footprint at Versace and Jimmy Choo.
So, with strong growth across its brands and no change to the long-term outlook, I believe it’s best to be cautiously optimistic the stock is nearing a bottom.
The Fundamental Case
Based on a share price of $48.00, Capri Holdings trades at a P/E ratio of 7.9 and a PEG ratio of 0.98 assuming an 8% earnings growth rate.
This is a very attractive valuation for a business that is much more recession-resistant than most other retailers and it represents a significant discount to peers like Tapestry trading at more than 12x forward earnings.
So, while Tapestry undoubtedly has the better earnings trend vs. Capri Holdings short-term without a year-over-year decline in annual EPS on deck, I think the sell-off here in Capri Holdings is more than overdone and it’s offering very attractive value relative to other peers in the Retail space.
The Technical Picture
Most momentum traders would quickly skip over Capri Holdings, and even some investors might take a hard pass.
This is because the stock just suffered one of its worst weekly declines in the past few years, declining 27% in a week in mid-February following its fiscal Q3 earnings report, and a 25% monthly decline.
See the Full Technical Analysis Report for CPRI
Historically, declines of this magnitude have seen further selling pressure to follow, but the difference is that CPRI is suffering this decline above a rising 50-month moving average which wasn’t the case over the past several years with the stock locked in an intermediate downtrend.
So, with the stock approaching a convergence of support in the $44.00 – $45.00 region, I would not be surprised to see buyers step in if weakness persists.
The Bottom Line
Based on what I believe to be a conservative earnings multiple of 10.6 (15% discount to 5-year average) and FY2023 annual EPS estimates of $6.10, I see a fair value for Capri Holdings of $64.65.
This translates to a 35% upside from current levels, and this is based on what I believe to be conservative earnings estimates.
Looking ahead to FY2025 estimates, the stock is expected to report record annual EPS of $7.45, placing medium-term fair value closer to $80.00 per share even using the same conservative multiple.
So, with the trading back below $49.00 after a Q3 earnings miss, I would view further weakness in the stock below $47.80 as a buying opportunity.
Disclosure: I am long CPRI
The above analysis of Capri Holdings (CPRI) was provided by financial writer Taylor Dart. Taylor Dart is not a Registered Investment Advisor or Financial Planner. This writing is for informational purposes only. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Taylor Dart expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.
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