We view the firm's shares as fairly valued today.
management’s fourth-quarter commentary gave us insight into expectations for fiscal 2018 with announced plans to cull Kate Spade’s wholesale distribution and to expect brand repositioning to result in a high-single-digit decrease in comps for the fiscal year falling short of our expectations. Further, management thoughts on gross margin headwinds in fiscal 2018 from the Kate Spade business (which runs at a lower gross margin rate), led us to believe our previous expectations for a 120 basis point decline in adjusted gross margin to 67.5% could be on the light side. That said, we were encouraged by management’s plans to deliver synergies of $30-$35 million, which would offset in part the reduction in profitability from the strategic pullback of Kate Spade wholesale disposition and online flash sales channels. Further, we think that these decisions are the right ones in the long run given management’s track record of turning around the Coach brand. We note that the company generated positive Coach brand North American comps in each quarter of fiscal 2017 and consolidated adjusted gross margin improved 70 basis points to 68.7%.
Bridget Weishaar is a senior equity analyst for Morningstar.
Therefore, we expect to decrease our $47.50 fair value estimate by about 6% to 8% to reflect Kate Spade’s strategically reduced sales in fiscal 2018. We now expect Kate Spade to contribute about $1.2 billion in revenue versus our prior estimate of over $1.4 billion. That said, we continue to see the growth trajectory off this new base as strong and still expect high-single-digit average annual revenue growth over the next five years and adjusted operating margin to approach 20% by 2022 (versus 18% in fiscal 2017). Given current trading levels, we view shares as fairly valued.
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