3 Big Takeaways From Michael Kors' Earnings

NEW YORK (TheStreet) - Michael Kors (KORS) spooked investors on Monday after the handbags and accessories retailer reported better-than-expected quarterly earnings, but renewed fears about profitability. Specifically, concerns abounded about how the fashion retailer's inventory levels and markdowns are hitting the bottom line as well as its expenses related to growth investment.

"Our focus goes well beyond one year in order to support growth," Michael Kors Chairman and CEO John Idol said on the conference call. "Obviously we are making strategic investments" by expanding the store base, relocating stores and spending money on marketing, distribution and technology.

Michael Kors reported net income of $187.7 million, or 91 cents a share, for its fiscal first quarter, compared to $125 million, or 61 cents a share, in the year-earlier quarter. Analysts, according to Thomson Reuters, expected quarterly earnings of 81 cents a share.

Revenue rose 43.4% to $919.2 million compared to last year's quarter. Retail net sales rose 47.5% to $480.2 million. Gross profit, as a percentage of revenue, rose 20 basis points to 62.2%. The company reported same-stores sales growth of 18.7% for its North American stores against consensus estimates of 17.6%.

Shares were down 6.6% to $76.43 on Monday.

Here are three big takeaways from the conference call:

1. Is Michael Kors opening too many stores? Not according to management.

Responding to criticism that the company has opened too many stores too fast, Idol said, "We absolutely disagree." Including licensed locations, there were 605 Michael Kors stores worldwide at the end of the first quarter of fiscal 2015, up from 555 at the end of the first quarter of fiscal 2014.

In North America alone, Michael Kors has a long-term target of 400 retail stores. In Europe, Michael Kors believes it can expand the store base to 200 and generate revenue of more than $1.5 billion. In Japan, Kors sees opportunity for 100 retail stores, while stores in Asia ex-Japan could rise to 200 in the region.

According to its annual filing with the Securities and Exchange Commission in March, Michael Kors had 228 retail stores in North America, which does not include stores within department stores. Internationally the company had 117 stores in Europe and Japan.

"We think we're positioned to continue our growth and have the right strategy to do that," Idol said on the call.

2. The company sees lots of opportunity in other merchandise categories besides handbags, specifically menswear.

Handbags and small leather goods makes up approximately 70% of sales for Michael Kors, Idol said on the call. The other 30% is made up of "less developed" categories such as menswear, women swear and watches, instance. Last month, the company hired Mark Brashear to head its men's department, a newly created position. Brashear was most recently CEO and chairman of the Americas business for Hugo Boss.

Michael Kors' new flagship store expected to open in the near future in SoHo will feature an entire floor dedicated to menswear and is currently testing standalone stores with men's only product. Over the long term, the company sees potential for as many as 500 men's stores worldwide.

Kors is "upsizing" approximately 41 stores there to showcase watches, jewelry and women's ready-to-wear merchandise. It sees a long-term target of 500 licensed stores for just watches and jewelry, up from 155 currently.

3. Idol to analysts on gross margin: stop being "unfocused."

Management keeps warning that margins are expected to decline as the company continues to invest in the business and sales begin to "normalize," but Wall Street doesn't want to listen.

For the second quarter the company's gross margin is expected to fall by approximately 50 basis points compared to the year-earlier quarter. For the year, the gross margin is expected to also fall 50 basis points while operating margin is expected to fall by 150-200 basis points as a result of increased costs for e-commerce, opening new stores and overhead, and inventory increases, among other things.

"As we said earlier on the call we believe that there's just some more normalized selling rates that are happening inside the stores. Those were unsustainable margins. We told everyone that," Idol said. "The reality of seeing that has everyone a bit unfocused. ... When you're focused on one little detail that's not the whole picture."

Idol also clarified what was happening in relation to the company's markdowns in its North American stores. "We're very proud of the fact that we decided not to enter in the deep discount fray [as other retailers] in the second calendar quarter ... We did try to bring some fall merchandise early" at the end of June to get a jump on fall fashion, he said. "That did not really work for us."

--Written by Laurie Kulikowski in New York.

Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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