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Coach Is Cheap for A Reason

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Lauren Sebastian of the Big Blonde Hair Blog contributes to TheStreet, leveraging her fashion industry experience to give our readers seasonal out and underperformers. Wall Street analysts do these types of channel checks all the time in the retail space and she is one of the top consultants in the sector. This time she teams up with our Markets Analyst, Lindsey Bell, to reveiw retail sales results and the luxury segment.

Lindsey's take on the stock:

Chain retail sales increased 4.7% in the last week of March according to ICSC / Goldman Sachs. That's a solid showing given the unseasonably cold weather the country saw last week. In fact, last month was the coldest March since 1996. While Easter coming early should benefit sales in March, the cold weather certainly will hurt.

A handful of retailers will report their sales results for March next Thursday, and then the Census Bureau will release the broader results for retail sales on Friday. The group is up against tough compares from last year that benefited from being the warmest March since 1910. Even though expectations have been reduced heading in to next week, courtesy of commentary on cold weather from PVH (PVH), Crocs (CROX) and some of the teen specialty retailers, the retail group could come under pressure once the numbers are released.

One stock I have my eye on is Coach (COH). The stock is down 10% year-to-date and is 34% off its 52-week high. The iconic handbag company had a big fourth quarter earnings miss at the end of January that sent the stock tumbling. The miss was due to a shortfall in sales in its North American business, which is losing share to the likes of Michael Kors (KORS). In fact, the company reported its first negative comp in North America since September 2009.

While the stock is considered to be cheap trading at a P/E of just over 12x (vs. 17x five-year average), the company is no longer the high flyer it once was. Management has decided to transition the company into a "lifestyle brand" by adding products like footwear jewelry and outerwear to its offering, all of which have lower margins. The footwear line was launched last month and has gotten mixed reviews (see Lauren's take on the launch below).

Then there's that fierce competition, even management admitted that they have lost some share to competitors. Some say the negative sentiment in this stock has bottomed and given the relatively cheap valuation this would be a good stock to buy. I think the cold weather's impact on sales has not yet been reflected in earnings estimates for the current quarter. This will have a more significant impact on its outdoor factory outlet stores which represent 20% of the company's store base.

The company is more aggressively discounting at those outlet stores to drive traffic in this weather. They are offering 50% off versus the standard 20-40%. That along with the high inventory levels at the end of last quarter will keep the pressure on gross margins. Coach has a handful of issues that they need to work through and it is uncertain how successful the transition to a lifestyle brand will be. I think it is more likely this stock will go down than go up from here. I would stay away from shares until there is more clarity around the direction of the business.

Lauren's take on the business:

COH, a name that once solicited an interested eye raise from a fashionable woman, now causes more of an eye roll, despite their most recent efforts to expand their product category focus into shoes, accessories and outerwear. And there doesn't seem to be much of a reprise in site.

Their newest shoe line offers many pieces at a $150+ price point, with little design innovation and not enough of a name behind them to warrant the spending. With sale websites like GiltGroup.com offering discounts on more creatively designed lines like B by Brian Atwood, and ShoeDazzle.com offering designer inspired shoes, bags and accessories at a fraction of the cost, your style conscious shoe lover won't be spending their dollars on COH's mediocre designs. After all, I think my Grandmother wore the canvas "C" logo tennis shoes to her first day of grammar school, and it is once again offered on the Spring 2013 line. Note: She's even too cool to wear them now.

COH also has a competitor in KORS, who is currently in it to win it. While KORS definitely has the potential of over-saturation, currently it's cleaning up with MK by Michael Kors, their line offering items that are considered "high end" but affordable to the average shopper without deep pockets. In addition, their high end line, named simply Michael Kors, boasts gorgeously designed dresses and handbags for the sophisticated shopper. The company is doing a great job catering to both levels of consumer without cheapening the brand by differentiating with a large price difference between the two lines, and keeping their high end designs in the public eye by dressing Hollywood's elite.

On the other hand COH has not done a good job maintaining its luxury image. Once thought of as a store to make a special trip to at high end shopping destinations like Chicago's Michigan Avenue, it's now a place that I thought about going to in an outlet mall last week, only to go into KORS instead. By opening stores in every outlet mall I can think of and putting their merchandise in every disheveled Macy's handbag department, they've truly done themselves no favors.

Another competitor is L Brand's (LTD) Henri Bendel. Although it will probably never be a KORS, over the past few years they've expanded from their Flagship Fifth Avenue store to high end malls throughout the United States. While their purses and accessories are a similar price point to COH, the brand offers more of an appeal with on trend designs and that taste of Fifth Ave that comes with the name. For a consumer looking for a handbag or jewelry within the COH price point, Bendel has many more unique offerings and a more fashionable name.

The best way for COH to remedy this situation is new, innovative designers. Hire away some talent from successful, fashion-forward shoe lines, get some great designs in place and create a buzz. Make the line exclusive again. Pull out of the outlet malls, keep your exclusive COH stores and take things back to where they were.

Until then, it looks like COH will be sitting the bench. And if I see you carrying a handbag with "C"'s plastered all over it, you're running laps.

Options Profits team with the strategy: We can sell a COH 50/52.5 April call spread at $0.65...Let's look to buy it back for $0.30 for the win and will punt if the trade gets to $1.00, or higher. AS ALWAYS, this is a guideline and you should always stick to your trading plan and what's best for your risk/reward tolerance.

OptionsProfits can be followed on Twitter at twitter.com/OptionsProfits.

Lindsey can be followed on Twitter at twitter.com/lindseycbell.



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