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2019-10-16 20:41:29

Investment Thesis

Despite delivering an excellent earnings report, Skechers (SKX) share prices are plummeting of late. This decline is most reasonably warranted by the continuing US-China trade war.

Looking at the market performance, Skechers has surpassed both the US market and its industry this past year making this dip in the stock price presents an interesting opportunity ahead of its Q3 earnings report.

Company Overview

Skechers U.S.A., Inc. designs, produces and markets footwear for men, women, and children. The brand has an enunciated disposition around comfort and offering a wide collection of styles in many color combinations. The company operates through three business divisions, the domestic wholesale section, the international wholesale section, and online channels.

Financials and Valuation

The company has continued to deliver double-digit revenue growth over the past few years as a testament to its soaring international sales and expanding online segment.

Source: Based on the Company's 10K Reports

The above figure thoroughly illustrates the company's strong track record, leading to a reasonable return on equity of around 15%. SKX has significantly reduced its debt over the past 5 years bringing the debt to equity proportion from 7.7% to 4.9%.

After delivering a somewhat mediocre result in Q1, the stock once again outmaneuvered analyst's expectations in Q2 by furnishing an eye-catching top-line gain by 10.9% year over year coupled with a 69% increase in earnings per share which came in at $0.49. However, the company also oversaw a contraction of 100bps in gross margin due to the clearance of seasonal merchandise in international markets.

Source: Based on 10Q Report

The international wholesale segment accounted for more than 43% of the total revenue with the company benefiting from substantial gains in Europe, India, the Middle East, and China while domestic sales were accredited for a mere 24.3% which is 380bps less than the previous year quarter. At this stage, Skechers has pretty much become a foreign company with its international sales climbing the charts and domestic segment slumping down.

Going forward, the management was highly optimistic about continuing its streak of strong growth in Q3, estimating the revenue between $1.325 billion to $1.350 billion and EPS between $0.65 and $0.70. Skechers' outperformance also compelled analysts to raise their outlook as well.

Currently, the stock is trading at the PE ratio of 17.4x which is cheap considering the industry average of 24.9x. The EV to EBIDTA ratio of 8.6x is also well below the peer group average. The company's PS ratio of 1.17x illustrates a 56% discount to the industry average of 2.77x. Moreover, a 10-year DCF valuation depicts a 10% upside.

Competition And Brand Appeal

According to a recent market research report, Skechers is one of the top 10 shoe brands in the world. Despite that fact, Skechers still has to fend off competition from both well-established, unshakable brands like Nike and regional or local players. In light of this, the company has established itself as more of a casual and trendy label to succeed in such a competitive landscape making its market share geared towards a larger and more diverse group of buyers. The whole appeal of the Skechers brand is that they provide extremely comfortable and trendy footwear at an affordable cost. And this ideology bodes well with a lot of kids and teens who are willing to go the extra mile to try the latest infatuation.Source: Skechers brand popularity among demographics

Additionally, the company is also endeavoring to zero in on the female demographic which is more often than not under-appreciated by influential brands in the sneaker world. But their targeted segment doesn't just end there, it also includes elderly folks who represent an avid division for the company's whole comfortable footwear doctrine.

Source: Skechers featuring K-Pop ambassador Zico

So it stands to reason why the company opts for targeted sponsorships extending from pop icons to former athletes to enhance its brand image and increase merchandise visibility rather than amassing high profile athletes like many of its peers. Although Skechers recently bagged a deal with Shaquille O'Neal to launch a new line of kid's basketball shoes to try its luck in the aggressive world of basketball footwear.

Moreover, Skechers' shoes were also headlining the popular chunky sneakers trend that has overwhelmed the fashion circuits. Hopping on the Balenciaga craze, the company's lackluster designs became the talk of the town going as far as accessorizing the latest New York Fashion Week.

Feeling comfortable never goes out of style - a message Skechers delivered during NYFW's spring 2020 shows as the brand's most popular shoes graced the catwalk.

The company also holds a big share of the market internationally with recent acquisitions in Europe, Mexico, India, China, and the Middle East jazzing up the revenue. From an international consumer standpoint, people who are aspiring to a global taste and want in on the ever growing sneaker fad at an affordable price are likely to resort to Skechers due to its cheap prices and availability.

RisksLawsuits against Skechers- Over the past couple of years, Skechers has been at odds with several brands including Nike (NKE) and Adidas (OTCQX: ADDYY) (OTCQX: ADDDF), often due to various copyright violation claims. This does not portray the company's policies in the best light.China trade war escalations- The bulk of the company's production takes place in China so naturally it will be heavily influenced by the ongoing trade war and tariff retaliations. But Skechers is not worried about the trade situation with China as more than 50% of its products are sold to countries outside the U.S or as the company's CFO puts it:

The reality is today; we've had no impact. None of the affected tariffs in place has impacted our products.

He also highlighted that the management is assured that its sourcing team would be capable of adjusting if the tariffs situation takes a turn for the worse.

Conclusion

Although Skechers does not have a brand value equivalent to that of Nike or Adidas, there is no denying that the brand has established itself as one of the major players in the global market and is in a very good position at the moment.

Between the company's comforting progress in international markets, robust expansion despite competitive headwinds and a promising Q3 outlook, SKX is surely a stock to keep on your watchlist.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I'm not a certified financial advisor nor in any way licensed to give financial advice. Investors are expected to do their due diligence and research before any investment.


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