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We reaffirm our Neutral recommendation on Fossil, Inc. (FOSL - Analyst Report) following an appraisal of its fourth quarter 2012 results.
Why the Reiteration?
Fossil reported in-line fourth quarter 2012 earnings of $2.27 per share, which exceeded the year-ago earnings by 21.4%, driven by top-line growth, positive comparable store sales and improved margins.
Fossil’s net sales during the quarter increased 14.1% to $947.7 million, exceeding the Zacks Consensus Estimate of $933 million. Net sales, on a constant currency basis, increased 14.8%, driven by growth in all the regions, owing to the third consecutive quarter of double-digit growth in global watch sales and favorable comparable store sales. Fossil’s watch sales grew mainly owing to the acquisition of the Skagen brand (acquired in April, 2012). Fossil’s jewelry business improved, while sales in other categories including eye-wear and leather businesses declined in the quarter.
Despite currency headwinds, gross margin expanded 80 basis points to 56.9% as the company managed to grow its outlet channel, improve pricing across certain businesses, increase production efficiencies and achieve favorable product mix. Operating margin also expanded 60 basis points to 21.6% in the quarter, despite higher operating expenses.
Overall, we are encouraged by the company’s acquisition strategy, its strong liquidity position, prudent expense management and its ability to generate positive comparable store sales.
The acquisition of the Skagen brand has been adding strength across the North American watch business and has resulted in significant improvement in the Asia-Pacific wholesale business, offsetting the weaknesses of the European business. In Feb 2013, the company signed an exclusive global licensing agreement with designer Tory Burch for watches, which are expected to be launched worldwide in late 2014. Fossil’s 2011 partnership with designer Karl Lagerfeld is expected to lead to the launch of an exclusive collection of watches for men and women in the first quarter of 2013.
Further, Fossil has penetrated the international markets by forming alliances, acquiring internationally-based subsidiaries and licensing and developing international brands. Fossil’s acquisition of the Latin American distribution business of Florida-based Bentrani Watches, LLC in Jan, 2013 helped the former to gain from Bentrani’s exposure in 16 Latin American countries.
However, currency headwinds and a difficult macro-economic environment, reflected in interest rate hikes, credit availability, unemployment levels, and high household debt levels is expected to continue in 2013. In addition, the company needs to respond to changing fashion trends and consumer preferences to remain competitive and to keep up its brand image. The company also faces the risk of import restrictions such as antidumping or countervailing duties and tariffs or other restrictions due to international transactions.
Other Stock to Consider
Fossil currently carries a Zacks Rank #4 (Sell). However, there are other stocks worth considering in the consumer discretionary sector including Pvh Corp (PVH - Snapshot Report), Hanesbrands Inc (HBI - Analyst Report) and Michael Kors Holding Ltd. (KORS). While Michael Kors carries a Zacks Rank #1 (Strong Buy), Pvh and Hanesbrands hold a Zacks Rank #2 (Buy).