Tiffany & Co. (TIF) would have you believe that their business is as strong as ever. The company announced earnings for their second quarter (which ends July 31) last week and the news was met with buying pressure and a fresh breakout to new recovery highs. The 11.3% one day advance was primarily attributed to the fact that management raised its guidance for current year earnings from a range of $1.50-$1.60 per share to $1.65 to $1.75.
Although it certainly is good to see earnings expectations move in a positive direction, it seems that management was intentionally “sandbagging” by issuing guidance that was obviously too conservative in order to be able to raise that guidance midway through the year. This is an old trick and shouldn’t surprise any seasoned investor. Furthermore, even if the company hits the high end of this range, $1.75 per share still represents more than a 25% decrease from the earnings seen in 2008. (And for those keeping score at home, 2008 wasn’t exactly a stellar year for growth either).
Looking carefully at the quarterly numbers, it appears that the US remains the company’s problem area with comparable US stores seeing a sales decrease of 27%. Company wide, the net sales were down 16% compared to the second quarter last year. The decline is especially disappointing considering there were an additional 15 stores in the mix compared to the 196 stores open at this time last year. Currently the store breakout is 88 location in the Americas, 99 stores in the Asia/Pacific region, and 24 in Europe.
We are pursuing a more modest pace of store expansion this year, in light of economic conditions, but will nevertheless increase the number of Company-operated stores by about 6%. ~Michael J. Kowalski, CEO
Asia/Pacific sales were relatively flat versus last year and Europe sales only decreased by 4%. So it would appear that the company is likely to experience the majority of its growth (or maybe just stability) in the near future from these regions. One potential positive for TIF is that an abundance of non-US revenues could become even more attractive if the dollar falls as a result of loose policy in the US.
Inventory has been a particularly important issue for Tiffany & Co. to monitor because it represents such a large portion of assets. At the end of the second quarter, the company had over $1.5 billion dollars tied up in merchandise. The level of inventory has been slowly dropping this year even while opening new stores which shows that management is committed to responsible use of their capital. I currently expect inflation to be a major factor for hard assets – which could help the value of this inventory… But if we end up with a deflationary double dip recession the value of this inventory could plummet which would have an extremely negative effect on the equity of the company.
Unfortunately, there are three major issues that concern me and create a short opportunity for this stock.
- Continuing Consumer Weakness – The market has rallied sharply, but we are seeing very little evidence of a rebound in consumer spending. Jewelry is one of the ultimate “discretionary” items and can easily be cut out of any budget. So as retail stocks begin to experience weakness once again, Tiffany & Co. could be one of the first names on investors chopping blocks
- Technical Failure - After Friday’s strong rally following the earnings announcement, investors have quickly turned tail and given up much of the positive move. A failed breakout can lead to sharp selling as the “fast money” which quickly drove the stock higher becomes frustrated and quickly chases other opportunities. The chart pattern could drive technical traders to add short positions which could quickly send the stock back down to the mid $20’s
- Rich Valuation – Currently, TIF is trading at a multiple of roughly 20 times expected earnings for the current year. While that may not seem like an extremely rich price, consider the fact that TIF is no longer a growth stock. Even with an expected rebound in earnings next year, TIF will still be far short of peak earnings seen in calendar year 2007. And it will likely be years if not decades until we see consumer optimism reach the same level we saw 2 years ago.
So considering the market now appears to be exhausted from all the summer buying – and taking the negative economic environment which still needs a lot of work before the “all clear” is sounded, TIF appears to be an exceptional opportunity to profit from a failing retail investment.
FD: Author does not have a position in TIF
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