It pains me that I feel a bit complacent on the market this early in the week, but the fact is that there is a mystique of sustainability to the talk-driven rally -- and that is of mild worry to a person always trying to zig as everyone else zags. Nonetheless, school is in session, folks. In every earnings season, one company in a certain sector will set the tone for the sector at large. The company's earnings are sliced and diced with extra precision by the Street, and then there is an overlay of analyses on top of similar names (or, as we in the biz say, "peer comparables"). In the spirit of not creating news for the sake of doing so in this generally boring week thus far, I do think we need to pay careful attention to Ralph Lauren's (RL) earnings, due out Wednesday.
How I'll approach the report will follow my usual template: I'll respect whatever the heck the market is throwing in our face -- in other words, I'll look at price action -- and dovetail that with surprise factors from inside the company. Here are my fortune-teller-esque notions on what Polo's earnings could reap.
● Polo's earnings reignite concern on the U.S. high-end consumer, who has been dormant lately.
● Polo's earnings challenge the notion that a best-in-breed company could do well in dreadful periphery European Union countries. Moreover, the market again demonstrates it has limited to zero love for strong relative outperformance; it only sees downside risks.
● Polo's earnings cause analysts to readjust their modeling on second half 2012 commodity cost savings as retailers plow the found loot back into lower merchandise prices and technology.
● Polo's earnings support the view that the China story is weakening beyond Nike's (NKE) simple call-out of excess inventory and rampant discounting: Not only are locals curtailing their appetite for luxury, but they are doing so on trips to European countries.
The stock market has showed itself to be a mega force in predicting dreary earnings reports this earnings season. A prime example: the underperformance of Starbucks (SBUX) shares into its earnings miss and dreadful conference call, both of which aided in a full-fledged stock rout. So much for "oversold" in theory being proven "oversold" in realty.
With this factoid in mind, let's examine things logically and further. First, Ralph Lauren has shed 14% in 13 weeks, severely lagging the S&P 500, and passing with flying colors on the "Starbucks Earnings Predictor Test." Second, please respect the assorted messages from companies that have similar business models to Ralph Lauren -- for instance, Decker's Outdoor (DECK), Nike, and Coach (COH). Finally, if you're not a large believer in relative analysis, chew on the company-specific items I have detailed below. All in all, this horse could have one foot in the grave, instead of resembling a vibrant, galloping Trigger.
À la Carte Reasons to Avoid Ralph Lauren Ahead of Earnings
● Two-year first-quarter operating-margin comparisons have accelerated. But, given global macroeconomic conditions, the fiscal first quarter (ended June) could show a sharp slowdown from the stacked trend the sell-side analysts love to study. On the topic of comparisons, recall these facts from the year-earlier quarter: (1) retail sales delivered upside to plan; (2) there were double-digit percentage comparisons at all divisions; and (3) gross margin was at a record level.
● In the past three years, productivity gains at Ralph Lauren retail stores in the U.S. and Europe have accelerated. These gains have eased the minds of investors during rough patches in Polo's sales. At this point, I think productivity gains will have moderated in the June quarter due to pressured sales in Europe, both thanks to local customers and from sales to Chinese tourists at European destinations. This undermines a key reason to maintain exposure to a premium-valued stock.
● Specific fiscal first-quarter risks: (1) currency compared with guidance, for which management called out a 2% to 3% negative hit; (2) front-loaded investment spending; and (3) downside to wholesale sales guidance, thanks to a shipment shift in shipments into the fiscal fourth quarter.
● Specific fiscal 2013 risks: First, there's quality of earnings, with tax rate benefits having been a driver of the bottom line. Second, there's the question of how much product-cost savings are being reinvested in the business on a structural level (keeping an eye on China here), as well as to maintain traffic in what's shaping up to be a globally downtrending consumer-spending story.