Michael Kors fall 2017 ad

MKM Partners began coverage of Michael Kors Holdings Ltd. on Tuesday and it had an immediate impact: Kors’ shares dropped 7.4 percent based on the firm’s “sell” rating on the stock.

Analyst Roxanne Meyers set a price target for the shares of $26 and investors somewhat listened, sending them down to a close of $33.25.

According to Meyers, there’s a chance Kors won’t be able to innovate as fast as it needs to in its attempt to turn around the business. Further, other changes to the assortment mix could lower the company’s operating margin. Even though Kors continues to pull back on wholesale distribution — now at 39.5 percent from a peak of 51.5 percent in 2011 — Meyers still expects the channel to account for nearly 35 percent of sales in 2020.

“From an operating income perspective, wholesale represented 52 percent of operating income in 2017, which is at peak levels,” she noted. And with continued weak department store traffic and industry consolidation, Kors remains exposed to sales volatility, Meyers concluded.

In May when Kors posted fourth-quarter results, the management team acknowledged that its troubles were far deeper than just needing some quick fixes such as pulling back on promotions and reducing its presence in the department store channel. At the time, the company said its fourth-quarter loss for the period ended April 1 was $26.8 million, or 17 cents a diluted share. That’s against net income of $177 million, or 98 cents, a year ago.

Chairman and chief executive officer John D. Idol went on to disclose a new strategic program dubbed Runway 2020, which called for the company to close more stores, step up its game on fashion innovation and pull back even further at wholesale. Calling fiscal 2017 a “difficult and disappointing year” against the backdrop of a challenging retail environment, Idol said the company had to take “steps to accelerate the level of luxury fashion innovation and our accessories assortment.” He added that the new initiative also has “long-term strategic plans to better engage and excite consumers.”

While there’s a bit of runway room as the company continues to build its men’s business, sales in other categories have been somewhat lackluster. Kors’ smartwatch offerings in wearable tech did well, but the fashion watch business remains under pressure. And at its core handbag business, certain styles resonated with consumers, but many did not. Further, the global accessories market for handbags and small leather goods is “roughly flat,” according to Idol.

Revenue figures for the quarter showed how bad things really were for the mass luxury firm. Overall revenues for the quarter were down 11.2 percent to $1.06 billion, which included an 11.3 percent slide in net sales to $1.03 billion and a comparable-store sales decline of 14.1 percent.

According to MKM’s Meyers, the “slow pace of innovation along with changes to the merchandising and promotional strategy lowers the visibility in a return to positive comps.” She was critical of the plan to innovate based mostly on better materials and higher prices in the face of a 40 percent stockkeeping unit reduction, and said the design team structure of having one team for both stores and outlet could limit innovation. And while the company’s plan to renovate 100 doors in the second half is a plus, Meyers said most of the increased conversion will still come from improved product.

Digging a little deeper, Meyers said that while innovation is expected to ramp up from only 20 percent of the assortment to 37 percent by the end of fall and to 65 to 75 percent by spring 2018, the problem is “there is little evidence to suggest it will have a favorable impact on the business.” She added that a further detriment is that global comps have continued to decelerate.

Moreover, Meyers said while there were some positive call-outs in certain product categories — women’s apparel, specifically dresses; growth of the smartwatch business; footwear, and men’s — collectively they are “too small to move the needle in light of declines in fashion watches and in handbags.” The accessories component represents 70 percent of total sales at Kors.

Meyers’ estimates were also lower than Wall Street’s average, reflecting her view that the “operating margin is structurally headed lower from the shift to retail, investments in omnichannel and product mix shift to lower-margin categories.”

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