Coach, Kors and Fossil: No, No and No

When specialty retail slips, the market is unforgiving. Each one of these stocks is down over 50% in the past three years: Coach (COH) has had the rockiest road with its earnings being cut in half, while Michael Kors (KORS) and Fossil (FOSL) are just beginning their earnings and business resets. Furthermore, it can take years (if ever) for franchises to recover once a company loses its mojo, because customers can be very fickle. Today's hottest item can be tomorrow's perennial laggard. The branded lifestyle industry is littered with has-beens such as Jordache jeans, Thom McAn shoes, Juicy Couture designer wear and Timex watches. As a result of industry or company-related missteps, the handbag and watch specialty retailers have experienced tough sledding in recent years. Each company looks statistically cheap. The management teams and boards are also proactively trying to address their business pressures, while also trying to help their shareholders along the way. However, after a thorough review, we are not ready to step up and recommend purchasing any of the stocks. But we do think it is worthwhile to get familiar with the stories. The first stock to stumble was Coach. Since the early 1980s, the company consistently reported double-digit growth as an emerging provider of leather handbags through its own branded retail store network. The margin structure was the envy of the industry, with peak gross margins of 80% and net margins of 24%. The company was ready for its next act: rapid global expansion. Then suddenly, beginning in 2013, the long-term growth and margin story unwound. Over the course of the next two years, revenues dropped by 20% to $4 billion (from $5 billion), while earnings per share were essentially cut in half from $3.72 in 2013 to an estimated low of $1.90 in 2015. The core North American business unit continues to contract as customers have been shopping at rivals or demanding lower price points on core merchandise. We don't have a great sense on when business will turn in earnest. Things at Coach seem to be stabilizing, but at much lower levels. CEO Victor Luis spoke early this week and was confident that the turnaround was beginning to take hold. Based on the current depressed earnings, the stock isn't cheap at an 18.5 P/E. As long as they can drive earnings back north of $3 per share (the level they were earning from 2011 to 2014), the stock is attractive and has a good deal of upside from here. Our sense is that COH was the first to have issues, then brought in a new senior management and design team, and is further down the road to fixing themselves than the others. Michael Kors was a big reason for Coach's fall from grace. Kors grew from $800 million in annual revenues in 2010 to over $5 billion in 2015. During this time frame, profits exploded from $72 million, or 40 cents per share, to over $900 million, or over $4 per share. Michael Kors was the next hot branded specialty retailer in handbags and clothing. But of late, even Michael Kors has begun to experience changing fortunes. In the most recent quarter, Kors reported a 6.7% decline in North American retail comps. The shares declined over $10, or more than 15%, on this news. The shares are more reasonably priced than Coach at a little over 11x 2015's EPS estimate of $4.28. But if Kors' problems are deeper than they currently appear, those earnings could be coming down more before they bottom out. It's too early to tell if the last quarter's issues were just a one-quarter blip or the beginning of a multiperiod slowdown. In light of this uncertainty, we are not ready to step into the stock. Lastly, Fossil Group, the branded watch manufacturer, has also stumbled during this time period. Earnings have dropped from $7.10 per share in 2014 to a newly revised $5.79 for 2015. The company has had a long history of introducing new models and expanding its global footprint. Unfortunately, the conventional watch business may be in the very early innings of tremendous secular change, with the launch of smartwatches, in particular the Apple (AAPL) Watch. The change for the worse could last quite some time, and there is no way to accurately predict the magnitude, duration or outcome. While these shares seem inexpensive at 12.4x 2015's EPS estimates, we worry about the near- and intermediate-term trends in the watch business. Small changes in end demand can have more significant impacts on earnings, and the market is not forgiving when these occur on the downside. As such, we think it is way too early to be constructive on FOSL. We are not sure how all these situations will play out over the course of the next year, and as a result we are not yet ready to step up and buy. Nevertheless, these are very beaten-down, good brand names that could eventually provide an opportunity for a turnaround for an attentive investor who's done their homework. We would stay close to these names for the potential to spot the signs of an incipient recovery.

Coach, Kors and Fossil: No, No and No

Not all that glitters is worth investing in; we're avoiding these 3 for now.

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