Go to the “Gifts for Her” web page at Tiffany & Co. (NYSE:TIF) and you see lots of nice items. You will also notice that the 12 items on the first page sell for an average price of $1,815. That’s almost 4% of the median annual income of households in America.
This Tiffany pricing model might not seem like much to some well-heeled shoppers, but for many it’s one or two months rent. Something’s upside down in the world we live in when one person can easily afford to spend 20 C-notes for a piece of jewelry and another can’t scrape together the funds to keep a roof over their heads.
Tiffany & Co. might sell nice jewelry, but its stock always will be under pressure because of the optics of its opulent product. Current shareholders and potential investors take heed. This stock has no staying power.
Tiffany and Allocation of Capital
Businesses that sell jewelry for $1,800 a pop generate a great deal of free cash. Tiffany’s pricing power is legendary, although not nearly as strong as Coach (NYSE:COH) these days, whose gross margins are in the 70% range compared to the mid-50s for Tiffany.
Don’t feel sorry for the jeweler. It makes out just fine. But what does it do with its free cash?
According to Morningstar, in the last five fiscal years, it’s generated just over $1 billion in free cash. Dividends accounted for $410 million. Share repurchases another $1.16 billion.
There’s only one problem. We’re already over free cash flow by $561 million. Cash-on-hand at the end of fiscal 2006, stock options and short- and long-term financing make up the deficit.
Fortunately for management, Tiffany stock performed well over the past five years, up 18.6% annually. Between 2006 and 2010, it bought back 27.75 million shares at an average cost of $41.80. That’s slightly above the five-year average trading price of $41.23, which is based on a high of $65.76 and a low of $16.70.
I personally like to see companies paying much less than average when buying back stock, but that’s just my opinion. Tiffany capital allocation is mediocre but not out of the ordinary.
Tiffany Second Quarter Earnings Results
For the most part, Tiffany Q2 earnings were strong. Revenues grew 24% to $872.7 million, with Asia leading the way with 55% growth. The market now accounts for 20% of overall TIF sales. Same-store sales, a critical number in retail, increased 20% globally with 41% comps in Asia-Pacific.This region is s clearly a growth engine for Tiffany.
On the bottom line, profits generally were a very positive story, with net earnings increasing 33% to $90 million. However, its expenses increased faster than sales, delivering operating income growth of 24% and an operating margin of 16%. Now compare these numbers to Coach. In its fourth quarter ended July 2, its revenues (adjusted to account for an extra week in the period for 2010) grew 17% to $1.03 billion while net income was up 18% to $202 million.
Coach’s numbers aren’t nearly as impressive. However, its net margin in the quarter was 19.6% compared to 10.3% for Tiffany & Co. Coach would have made $171 million on Tiffany’s revenue instead of $90 million. Over the course of four quarters, this makes a big difference. If Tiffany had any real competition in the jewelry business, its margins might even be smaller. Its second quarter results were good but against Triple-A competition.
Historical Share Price
Tiffany & Co.’s cumulative total return for shareholders since May 1987 is 3,681%. Coach, on the other hand, has a cumulative total return of 1,736% since October 2000.
Over 10 years, Coach has beaten Tiffany & Co. on an annual basis by 18.9%. In recent years, especially the last couple, the gap’s closed as Tiffany’s gotten its groove on. History, however, doesn’t play in its favor. If you look at its five-year chart, you’ll see that with the exception of the last five months, its stock never has traded above $60. Furthermore, it’s currently trading at a P/E of 22 even though its long-term earnings growth rate is high single-digits. At some point, its stock will revert to the mean.
Bottom Line
While diamonds might be a girls best friend, Tiffany stock won’t be as friendly if you buy anywhere above $60.
As of this writing, Will Ashworth did not own a position in any of the stocks named here.
