Kering: We See Weak Brand Performance as Transitory Due to Economic and Fashion Cycle; Shares Cheap

We are reducing our fair value estimate for narrow-moat Kering KER to EUR 600 from EUR 650 as we adjust our near-term forecast to incorporate more pressure on the company’s brand revenue and margins after weak third-quarter sales numbers.

Revenue for its top brand Gucci was down 7% at constant exchange rates versus low-single-digit growth in the first half of the year. This was substantially weaker than 15.6% growth for Hermes and 9% for LVMH’s fashion and leather division. Gucci has been experiencing 4 years of underperformance versus its large peers and we now expect revenue for this brand to be lower in 2023 and marginally up in 2024 as the brand repositions its offering toward new designer collections and reinvests in marketing to boost appeal. We expect margins in the low 30% for Gucci in 2023 and 2024 versus 35.6% in 2022. We believe brands go through fashion cycles lasting about 5 years and our forecasts of more near-term pressure on Gucci reflect those. We still believe it is highly unlikely one of the best-known luxury brands with strong control over distribution and the backing of Kering’s substantial resources (marketing and access to talent) will continuously trail the industry in growth, something that Kering’s 13 times forward earnings multiple (20-sector average) seems to imply. We see current weakness as a buying opportunity.

Kering’s other brands have also weakened markedly. Bottega Veneta sales were down 7%, other luxury brand segment sales were down 15%, and Saint Laurent sales were down 12% versus 7% growth in the first half. Saint Laurent has always been a strong consistent performer within the group, delivering double-digit annual average constant-currency growth over the last 5 years and never lagging the luxury industry. Management attributed current weakness to overexposure to developed markets and aspirational consumers, who we view as specifically vulnerable to tightening economic conditions after the postcoronavirus luxury buying boom.