Money Matters - Simplified

Luxury's Freefall

The luxury retail space is looking pretty shopworn these days. One must wonder if, for many of the most luxurious of the brands and retailers out there, the good times are over for a very, very long time.

There are bargain stocks amongst the luxurious rubble, but investors must choose carefully given the dreadful economic climate and the ramifications for many of these companies and brands.

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Beautiful brands, ugly tidings
Let's take a look at a few examples of the drubbing taking place as the affluent (and formerly wannabe affluent) pare back their spending. Saks (NYSE: SKS) reported a fourth-quarter loss of $98.75 million, or $0.72 per share, compared to a profit of $39.47 million, or $0.26 per share this time last year.

Saks made a dubious name for itself recently by being one of the first luxury retailers to slash prices mercilessly before the holiday season, cutting prices up to 70% and sending ripples through the luxury goods marketplace.

Then there's Nordstrom (NYSE: JWN), which recently said that fourth-quarter profit dropped 68%. Revenue fell 8.5%, and same-store sales plunged a whopping 12.5%.

Abercrombie & Fitch (NYSE: ANF) is another fascinating case, well known for its pricey teen merchandise and its traditional tendency to stubbornly avoid markdowns like the plague, even in bad times. However, when it reported its quarterly results several weeks ago, its profit had dropped 68%, its revenue dropped 19%, and same-store sales plunged a nauseating 25%. The once-mighty (and some might say, mighty snooty) Abercrombie had also caved to what CEO Mike Jeffries dubbed an economic "nightmare" and cut prices up to 90% on some of its wares.

The return of the frugal consumer
Yesterday, news agencies reported that in February, consumer confidence has plunged to another all-time low since it began being tracked in 1967, to a dismal 25. It was 37.4 in January, and economists had expected it to come in at 35 this month. This does not bode well for the luxury goods market in the least. 

It's easy to imagine that things are going to be very tough for many of the companies that thrived during the period that basically included two back-to-back asset bubbles. What will happen to high-end consumer goods and retail companies like Tiffany (NYSE: TIF), Coach (NYSE: COH), or Williams Sonoma now that the good times are over and the aftereffects are rippling through the economy?

Sure, most will survive, but client bases will become much smaller than they were during the bubbles. And the breakneck growth that many experienced before may never be restored (or, if it is, it might be because of yet another bubble situation).

After all, consumers' previous tendency to fire up spending on debt appears to be over. Before, purchasing a $5,000 handbag was as easy as handing over your MasterCard (NYSE: MA) or Visa (NYSE: V). Now, many consumers are already over their heads in debt, have had their credit lines slashed, are underwater on their mortgages, or have lost their jobs.

Luxury goods don't look fun as much as they do frivolous these days.

The customer’s calling the shots
My Foolish colleague Kristin Graham and I recently discussed one interesting element of the current situation. Luxury retailers and consumer goods companies traditionally made high, high prices part of the aspirational element of their brands. Now, consumers demand cheap more than chic, and that presents a real quandary for the luxury goods space. At some point, that stuff's got to sell, one way or another, and the usual way, of course, is to cut prices till shoppers bite.

That's nice from the consumer perspective, and right now the luxury companies have little choice but to cut prices, but when the economy begins to turn around -- and that might not be for a while -- luxury retailers that cut prices too much and too consistently may find that consumers won't be as enamored with the brands or as willing to pay full price for them again. In other words, they could tarnish their brands forever, as dubious as it may have been that a trendy brand name and a nosebleed high price could be a real competitive edge.

Meanwhile, I recently saw a Wall Street Journal article revealing how many high-end retailers seem to have remembered that good customer service could help them drum up flagging business. During the bubble times, a snooty sales staff often gave off an air of exclusivity. Now, it appears that real, friendly customer service is making a comeback as these retailers become increasingly desperate for business. (Many of us might say that real, friendly customer service should never have been "out.")

Investors must aspire for the very best
Investors would do well to carefully pick luxury goods stocks these days if they're looking for bargains among these beaten up names. The highest quality brands need to be considered, and the possibility that the brands' strength may be eroding through markdowns must be weighed. It's smart to look for companies with strong balance sheets and little or no debt. 

For example, Coach seems to me a venerated, classic brand that will never go out of style, and it is well known for quality. It's trading at a mere 6 times earnings, and it has $424 million in cash and no debt. Although the near term may be rough for Coach, it strikes me as a strong contender for long-term investors.

Tough times do present great opportunities for investors. However, the death of excessive luxury should lead investors to concentrate on identifying the real survivors in a drastically changing economic climate.

Copyright © 2008 Universal Press Syndicate.