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Fossil, Inc (FOSL - Analyst Report) started the year 2013 on a strong note. It reported first quarter 2013 adjusted earnings of $1.08 per share, which exceeded the year-ago earnings of 93 cents per share by 16.1%. The results also exceeded management’s guidance range of 93–98 cents per share and topped the Zacks Consensus Estimate of 97 cents by 11.3%. The year-over-year upside was driven by top-line growth, positive comparable store sales and improved margins.

Quarter in Detail

Fossil’s net sales during the quarter increased 15.5% to $680.9 million, exceeding the Zacks Consensus Estimate of $655 million. Net sales increased across all geographic regions. Fossil witnessed fourth consecutive double-digit quarter of growth in global watch sales, mainly owing to the acquisition of the Skagen brand (acquired in April, 2012). Fossil’s jewelry business improved, while sales in other categories including eyewear and leather businesses declined in the quarter. Currency translation also reduced sales by $1.4 million in the reported quarter. On a constant currency basis, net sales increased 15.7% to $682.3 million.

Gross margin contracted 20 basis points to 55.6% due to currency headwinds and a negative impact from a larger mix of sales through distributors. This was partially offset by favorable product mix, growth in outlet channels and improved margins in global full price retail stores. Operating margin also declined 20 basis points to 13.9% in the quarter due to higher operating expenses.

Segment Details

Net sales from the North America wholesale segment increased 13.3% on a constant currency basis to $254.9 million, primarily driven by robust watch sales, including sales of Skagen-related products. The segment also experienced decline in leather and eyewear businesses due to lower shipments.

Net sales in Europe grew 13.5% year over year on a constant currency basis to $173.5 million, driven by increases in watch sales mainly with the addition of the Skagen brand. However, reduced shipments in the leather and eyewear businesses offset the sales increase.

Net sales in the Asia-Pacific segment increased 15.3% on a constant currency basis to $88.4 million, driven by increases in the company’s watch sales. Skagen-branded products contributed $3.0 million to net sales.

Direct-to-Consumer segment net sales grew 22.7% year over year on a constant currency basis to $165.5 million, primarily attributable to strong comparable store sales and increase in the average number of company-owned stores in the quarter. Growth in watches and a modest increase in the leather business also fueled the sales increase, along with higher sales from the company's repositioned jewelry products.

Guidance

Fossil has raised its earnings guidance for full year 2013. The company now expects earnings in the range of $6.00 – $6.26 per share, higher than the previous expectation of $5.85 to $6.15 per share. Fossil reiterated its outlook for sales and operating margin. The company expects sales to increase in the range of 10% to 11%. Operating margin is likely to be in the range of 16.5% to 17.0% for 2013.

For second quarter 2013, Fossil expects sales to increase approximately 8% to 9%, including the negative impact of shift in shipments. The company expects earnings in the range of 89 to 94 cents per share and operating margin in the range of 11.5% to 12.0% in the second quarter.

Our Take

We are impressed with Fossil’s acquisition of Skagen, which boosted the Asia Pacific wholesale business and added strength across the North American watch business. It also overshadowed the weaknesses of the European business. Fossil has also been experiencing back-to-back increases in comparable store sales. The company is also cash rich and rewards its shareholders through share buybacks. However, higher labor costs, currency fluctuations and uncertainties in Europe continue to remain headwinds. Fossil holds a Zacks Rank #4 (Sell).

Other stocks worth considering in the consumer discretionary sector are Joe’s Jeans Inc (JOEZ - Snapshot Report), Hanesbrands Inc (HBI - Analyst Report) and VF Corp (VFC - Analyst Report), each of them carrying a Zacks Rank #2 (Buy).

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