EUR 850.00 For Business Accounts Only

Morningstar | Ferragamo's Profits Weaker Than Expected, Inventories Rise; Shares Expensive

We are maintaining our EUR 15.80 fair value estimate for no-moat Ferragamo as the company reported revenue in line with expectations but lower profits than we expected. Revenue at constant currencies fell 1.7% versus the 1.3% decline we anticipated, but profit margin decreased to 11.1% versus the 12% we expected. We view the shares as moderately overvalued, trading at around an 18% premium to our fair value estimate. Our forecasts already incorporate a recovery in Ferragamo’s sales in 2019 and gradual margin improvement to over 16%. Hence, we would recommend waiting for a better entry point into the name.

Gross margin was marginally below our expectations, negatively affected by currencies but partially compensated by higher full-price sales. Operating costs increased 2.5% at constant exchange rates (flat at current exchange rates versus the 2% decline we expected) as the company invests to reinvigorate the brand.

Despite a revenue drop of 3.3% for the year at actual exchange rates, the inventory position rose 12.4%, suggesting that discounts may be needed to clear stock. Excluding exchange rate moves, inventory was up 4.6%, still developing unfavorably versus a 1.7% decline in revenue over the same period. The dividend was reduced to EUR 0.34 versus EUR 0.38 in 2017; this implies a dividend yield of 1.8% at current prices.

In February, Ferragamo appointed Paul Andrew as creative director of the brand. He was previously the company's women’s footwear and later women’s creative director. We believe that putting the brand under a single creative leader could result in a more-consistent brand representation and clearer message to the consumer, which could improve desirability (Kering’s Gucci and Balenciaga are notable success examples of such an approach).

From a product standpoint, leather goods and fragrances were the only product categories that showed positive development. Footwear, which contributes 41% to the company’s revenue, saw a 3.9% decline in sales in constant currencies. Nonetheless, this segment reported growth in the fourth quarter in the primary retail channel.

Ferragamo’s own retail performed better than wholesale channels with a decline of 1.3% at constant exchange rates, with a stable performance in the fourth quarter. Wholesale revenue dropped 2.7% at constant exchange rates with a decline of 5.4% in the fourth quarter, with sluggish performance in Europe, the Middle East, and Africa and the United States. Department store demand in the U.S. continues to be difficult.