Back in May, I wrote about the stock of Capri Holdings, the owner of wannabe-luxury fashion brands Michael Kors, Versace and Jimmy Choo. My assessment was that despite looking like a bargain, the stock was too risky due to its weak execution on a business level with deteriorating fundamentals. Capri and competitor Tapestry were appealing the blocked takeover attempt by Tapestry which now has been called off for good by the Federal Trade Commission. Capri crashed by 50% in response to the announcement of the deal-freeze. Is the stock now cheap enough?
Summary and key takeaways from today’s Weekly
– This is my second analysis of Capri Holdings. My first concluded to avoid this stock.
– Since then, shares have fallen by ~60% to the low-20s after the takeover by competitor Tapestry was called-off in the courts.
– As a standalone, Capri is on very shaky footing, making it a clear avoid.
I am writing again about Capri Holdings (ISIN: VGG1890L1076, Ticker: CPRI) because since my weekly from 02 May 2024 (see here), the stock has seen a brutal rollercoaster ride.
When I published my article, the stock traded around 35 USD.
In the following months, due to unimpressive earnings results, a weak consumer market in general and in the luxury sphere in special as well as a low chance to get the deal with Tapestry (ISIN: US8760301072, Ticker: TPR) through, Capri’s shares bounced twice to 30 USD, only to suddenly see a sharp rise into the 40s in the wake of the final hearings in court – hoping for a positive outcome regarding the takeover.
It happened what needed to happen.
The FTC blocked the deal for good. Tapestry’s stock rose by more than 10% as the 8.5 bn. USD deal would have been rather expensive and not necessarily value-accretive for them, considering that Capri not even had an equity value of 4 bn. USD at the time of the first deal announcement, but plenty of debt and operational issues.
What made the news was the slaughter of Capri which saw its stock cratering not less than 50% even below 20 USD – a level Capri has seen only in 2020 when the world was locked up. Seeing 2020 as a one-off, this a new unprecedented low for Capri’s stock. Despite huge buybacks in the past as I showed in my first article.
This new price level is almost 60% below where it traded when I published my Weekly.
One or the other value hunter might now be pointing at Capri for a possible bargain arguing with an overreaction.
The market is made up of its participants and thus emotions, expectations and sentiment which can indeed lead to an overshooting in both directions, up or down. Seeing it this way, it cannot be ruled out that we are dealing with an overreaction, at least in the short term.
But it’s paramount to assess the prospects for a standalone Capri Holdings. What has happened since my first article on a business level and what does the valuation say?
Has the risk and reward shifted to favorable?
Let’s have a second look at Capri today.
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both as per 06 November 2024 market close – since August 2022
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No golden parachute to the rescue
When I re-read my first analysis of Capri in preparation for this Weekly, I came across what I wrote at the end of my article.
I was a bit shocked, as I didn’t have that in mind anymore:
My gut feeling tells me that the stock could fall to the 20s, even the low-20s.
[…]
There’s no need to hurry.
– my first article about the stock of Capri Holdings, see here
Now it is evident that back then the market had still priced in some chance for a positive outcome and a final approval of the acquisition, despite the huge gap between the then-price and the takeover offer.
Otherwise a 50% slump cannot be explained.
On the other side, it perfectly shows that standalone Capri was tremendously overvalued at 35 USD as I had concluded with my analysis.
That’s the past, today is another day.
Before I start looking again at Capri in more detail, I wanted to explain that the headline for this weekly is borrowed from the responsible judge as I liked that pun.
Fun aside, I must say that it is a bit strange and some decisions seem to be rather arbitrary. Let’s take a look at two other court decisions from this year.
First, troubled and debt-burdened Spirit Airlines (ISIN: US8485771021, Ticker: SAVE) wasn’t allowed to be taken over by the bigger rival JetBlue Airways (Ticker: US4771431016, Ticker: JBLU).
The reasoning was more or less the same like in the Capri / Tapestry case, less competition and thus potentially harming consumers through evil price hikes.
The question is whether a bankrupt Spirit Airlines and thus less flights to choose from does not create more harm to consumes than a bigger entity with the potential for cost synergies would have done…
I could understand it – at least partially – if the following would not have been allowed a few months later from the same sector (and more reasons for concern from a competition standpoint):
As there does not seem to be a clear line on which such decisions are based, my thoughts that the called-off Capri / Tapestry deal has a bitter taste to it maybe is understandable.
I do not want to further debate whether this was a right or wrong decision, as everyone will have their own thoughts. Plus, my thoughts do not change the outcome anyhow.
So let’s try to answer the question whether Capri Holdings’ stock could be of value now as it has been hammered down so hard. The current forward PE ratio is 8.6x as of writing which seems low. However, we need to add 1.5 bn. USD in net financial debt to the equity market cap of 2.4 bn. USD (=3.9 bn. USD or let’s say 4 bn. USD for simplicity).
This alone increases the price by 63% or what would be a debt-adjusted PE ratio of ~14x – certainly not ultra-cheap anymore, giving a completely different picture.
As my longer-time readers know, I am primarily focussing on cash flows, not on earnings from the profit and loss statement.
In this regard, there is not much to celebrate.
Per last fiscal year, ended in March 2024, Capri only generated 120 mn. USD in FCF, which is very little compared to 4 bn. USD in enterprise value. Even against the market cap of 2.4 bn. USD that’s abysmal.
Okay, could have been a one-off on bad luck.
Over the last twelve months which include the following quarter until end of June 2024 (their Q1), FCF rose by almost 50% to 170 mn. USD. This does not make it much better, honestly… But even if, how come the strong growth?
Digging a little deeper and questioning where this higher cash flow comes from, the answer is that it’s basically only some working capital shifts, i.e. nothing sustainable. These numbers look more prepared for the reporting date, as especially payables have risen strongly.
Or in layman’s terms, this is only borrowed money as they have more unpaid bills.
Moves in receivable and inventories more or less balance each other with 40 mn. USD plus and minus. But payables being up by 64 mn. USD explains the sudden increase in free cash flow – an accounting gimmick, nothing organic.
Having looked at these positions, my interest for the balance sheet increased a bit more.
I saw that their current liabilities are higher than current assets – that’s never a sign of strength. Add to that the rather low cash balance of just 213 mn. USD and you can only come to the conclusion that these are shaky financials.
Especially compared to the same period a year ago, not just quarter on quarter like above.
What about the business development from a higher level?
Not much better.
Sales were down 13.2% and the adjusted operating margin was just 1.5%.
This is absolutely shocking, even after my first analysis which led me to be very cautious.
Later today after the bell, Capri Holdings will report its half-year earnings. As the environment for fashion in general and luxury in particular has not improved, respectively remained very challenging as evidenced by the weak results from industry heavyweights LVMH (ISIN: FR0000121014, Ticker: MC) and Kering (ISIN: FR0000121485, Ticker: KER), there’ very little hope that Capri surprises to the upside.
I am not an aficionado in this regard, but I guess both have not only a broader portfolio, but they have much more lucrative and higher-value brands like Louis Vuitton, Fendi, Balenciaga or Yves Saint-Laurent – just to name a few.
Capri remains a bad managed company.
Its acquired brands Versace and Jimmy Choo continue not only to disappoint. In fact, it gets even worse the more time passes. If the core brand Michael Kors starts to cough on top, then it’s clear that there’s not much on the positive side.
All brands saw a sales decline, and not just by a little.
Long story short, this is a highly sick patient.
The Tapestry-takeover would have been the rescue for the current management. As hard as it sounds, I do not see anything to justify to go long this stock.
Of course it is entirely possible that “better than feared” results could lead to a hefty rally out of the potentially oversold and over-exaggerated situation. But that should remain just a short-term effect.
It is clear for me: Capri remains a clear avoid.
Even if under a second term of Donald Trump more acquisitions could be allowed again, I am not investing in fundamentally weak companies purely in hope to get rescued by a third-party.
Conclusion
This is my second analysis of Capri Holdings. My first concluded to avoid this stock.
Since then, shares have fallen by ~60% to the low-20s after the takeover by competitor Tapestry was called-off in the courts.
As a standalone, Capri is on very shaky footing, making it a clear avoid.
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