VF Corporation (VFC) Stock Analysis

Introduction:

VF Corporation the largest publicly held apparel company in the world is known more by its brands Wrangler and Lee Jeans in Jeanswear, Red Kap and Bulwark Protective Apparel in Imagewear, JanSport and Eastpak in Outdoor, etc. Their merchandise is available at department stores as well as at their own branded retail stores. Mass-market brand acquisition has tailored the company’s growth:

• Getting hold of H.D. Lee Company (Lee Jeans) in 1969,
• Buying Blue Bell Incorporated (Wrangler and JanSport) in 1986 thereby doubling the size of the company.
• Purchasing North Face in 2000 to shift focus towards higher margin lifestyle brands.

A series of restructurings happened in the early 2000s – brutal for US employees as the end result was a string of plant closures, layoffs by the thousands, and relocating production to less expensive areas of the world such as Mexico, Central America, and the Far East. The company returned to its focus on lifestyle brands recently by gaining brands like ‘Seven for all Mankind’ and Lucy Activewear.

VF Corporation’s diverse brands stack up as follows:

• Outdoor and Action Sports: This is the largest coalition at 38% of overall revenue and includes brands like Eastpak, JanSport, Kipling, Napapirijri, The North Face, Reef, Vans, and Eagle Creek.
• Jeanswear: Jeanswear accounts for 35% of the company’s revenue and the popular brands are Wrangler, Lee, Riders, Rustler, Chic, 20X, and Maverick.
• Imagewear (Uniforms): Imagewear rakes in about 12% of the revenue with brands like Red Kap, The Force (Horace Small), Bulwark Protective Apparel, Chef Designs, and Majestic Athletic.
• Contemporary Brands: Contemporary Brands is responsible for 7% of the revenue with brands like Seven for all Mankind, John Varvatos, Ella Moss, and Splendid.
• Sportswear: Sportswear handles 7% of revenue and primarily consists of the Nautica brand.
• Other: 1%

VF Corporation also has diverse sales channels with revenue distribution as follows:

International: 27%.
Specialty Stores: 18%
Retail (includes International retail): 17%
Mass: 15%
Royalties/Other: 10%
Chains: 7%
Upscale Department Stores: 3%
Mainline Department Stores: 3%

Business Issues:

VF Corporation plans to aggressively grow its international business and in the last five years that business unit grew from 23% to 31% of their overall business. International sales are projected to reach 40% of overall sales in the next five years. The plan to achieve this is by keeping operating margins healthy in the mid-teens range banking on consumer spending cranking up in China and India. This has a practical ring as long as US is mired in the early recovery stages of the economy but should US snap out of recession and consumer spending ramp up this will be hard to attain, especially should buyer enthusiasm recede in China and India. This worst-case scenario is realistic as economists predict a credit bubble in parts of Asia and US economy making strides towards recovery.

Acquisition is a major growth strategy for the company. Fashion, which is capricious at best, dictates clothing demands that consumers cannot but be fickle. For this precise reason, brand purchases carry associated risks. Still, the respectable compounded annual growth rates since acquisitions for respective brands is a testimony to VF Corp’s track record of successful acquisitions. There have been some duds too - Nautica is one such washout and the company is yet to make that brand work since its acquisition in 2003. Management has to exercise due diligence with brand name acquisitions to contain this risk.

To curb operational costs and translate it into increasing profitability, the company relocated its entire supply chain overseas. With that, VFC became a company whose expenses are entrenched in emerging market currencies but whose revenue is garnered largely from mature markets. If emerging market currencies appreciate when judged against mature market currency, the company will lose ground for the costs will tick upwards and revenues dip simultaneously. Growing business in the emerging markets can downplay the risk. Other threats with its supply chain include the company’s vulnerability to the actions of the concerned government, labor laws, etc.

A core element of VFC’s international growth strategy is to open direct product retail stores in the emerging markets. Although 17% of the company’s revenue comes from its own retail stores, truth is retail outlets are a tough business – competition is intense with a host of stores (specialty, department stores, and chains) all catering to the same customer – adding further fuel is the disadvantage that most of the competition are pure retail plays and hence inherently much more focused.

Diversification in brands, sourcing, and selling implies the impending risk of VF Corp spreading themselves too thin. Management deserves acknowledgment for acquiring what is considered core assets to drive their strategy while divesting non-core assets – over the last ten years, the figures are at around $3.9B in revenues from acquisitions and about $1.3B in revenues from divesting. Going forward, keen focus on core areas in brands, sourcing, and selling are key to containing this risk factor.

Finances:

Below is a table that summarizes VF Corp’s financial position:

Year	2007	2008	2009	2010
Revenue	7.14B	7.56B	7.14B	7.62B
Net Earnings	591M	603M	461M	571M
Shares Outstanding	110M	110M	110M	108M
Earnings per Share (Normalized – one-time items removed)	5.41	5.42	4.90	6.58
YOY Earnings Growth	14.38%	0.1%	(9.60%)	34.3%
YOY Revenue Growth	16.33%	5.89%	(5.53%)	6.7%
Net Profit Margin	8.19%	7.89%	6.38%	7.49%

The retail industry took a nosedive in the last two years and VF Corp’s finances reflect the impact – revenue plunged to the mid-single digit range while earnings had an almost double-digit skid in 2009. Despite this, cash flow from operations was almost strapping $1B as gross margin increased in the last year. Management deserves accolade for soundly managing costs, inventory levels, and pricing.

Quantitative Rating:

Below is a spreadsheet showing our quantitative rating summary of VF Corp. (click for an understanding of the ratings on this spreadsheet):

• VFC scores 6.25/10 on its ability to beat inflation: Return on Equity and Free Cash Flow are both well above average while Net Margin is below average. PEG ratio, a measure of valuation is rich at 1.27.
• Corporate abuse rating drags at 0/10 as their executive compensation is egregious: The CEO makes around $5.77M, over 200 times the average worker.
• Income generation and liquidity measure is almost perfect at 9.33/10. The company pays a reasonable 3% dividend. The stock is also option-able and very very liquid.
• Volatility ranking is also almost perfect at 9/10: Beta is at market while Debt to Equity Ratio is good at just 0.25.
• Capacity to increase dividends fetched 6.67: VFC grew earnings in four of the five previous years but earnings went down in 2009. The payout ratio is good at 46 – company has room to increase dividends. The company has very good 5-year average dividend growth. As earnings declined sharply in 2009, the company scored a 0 for our 5-year average earnings growth number, which brought our Capacity to Increase Dividends number down to 6.67 that is respectable but not outstanding.

The overall quantitative rating or the ‘OFB Factor’ came in at 6.31/10, which is above average.

Summary:

VF Corporation managed its business fairly well during the recessionary environment of the last few years and emerged with an enterprise value of $10.41B and a forward PE of 13.71. Although both revenue and net income plunged during the period, through diligent cost control and inventory management the company managed to generate outstanding cash flow. Going forward, the strategy is to invest heavily in emerging market opportunities, which though risky has high rewards potential.

The company has a PEG ratio of 1.56, which indicates valuation is relatively high. Our quantitative analysis showed the company as having an ‘Above Average’ rating. Considering these matrix and the risk factors, we recommend adding this company to your watch list and consider purchase when the stock gets cheaper and clarity materialize regarding the business issues we highlighted.