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Coach Lacking Brand Personality Seen as Hindering Growth

Jan. 23 (Bloomberg) -- Bloomberg's Sheila Dharmarajan reports that Coach missed profit estimates as demand lagged in North America and looks at the challenge the company faces from Michael Kors. She speaks on Bloomberg Television's "Street Smart." (Source: Bloomberg)

Coach Inc. (COH)’s plan to become a lifestyle brand is missing one key ingredient: a story it can wrap around a larger-than-life founder like a Michael Kors, Tory Burch or Ralph Lauren.

Absent that, Coach probably will have to spend a lot more on marketing -- even as the company’s strategy involves selling more lower-margin women’s apparel, said Corinna Freedman, an analyst with Wedbush Inc. Until the plan shows progress or succeeds, Coach’s share price will be constrained, John Kernan, an analyst at Cowen & Co., said.

Coach unveiled its new brand strategy yesterday as the company conceded that, amid growing competition from the likes of Michael Kors (KORS) Holdings Ltd., it failed for the first time to gain or hold North American handbag market share in its latest quarter. Sales fell during the holiday period even as the overall handbag and accessories market expanded by 10 percent. Coach shares rose 0.3 percent to $50.90 at the close in New York after falling 16 percent yesterday in the biggest decline in more than five months.

“It’s not business as usual,” Chief Executive Officer Lew Frankfort said on a call with investors and analysts yesterday. Still, he said Coach is up to the task: “We have a long history of responding to change.”

Photographer: David Paul Morris/Bloomberg

A Coach Inc. bag is displayed for sale at a store in San Francisco, California. Close

A Coach Inc. bag is displayed for sale at a store in San Francisco, California.

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Photographer: David Paul Morris/Bloomberg

A Coach Inc. bag is displayed for sale at a store in San Francisco, California.

Coach closed yesterday at a 5.8 percent discount to the Standard & Poor’s 500 Index on a price-to-earnings basis, the lowest in more than three years.

For the past decade, Coach ruled the U.S. handbag market, in part by targeting younger customers with blingier bags. Then, before the recession, Michael Kors, Ralph Lauren Corp., Tory Burch LLC, and Fifth & Pacific Cos.’ Kate Spade brand moved onto Coach’s turf, chasing margins that can exceed 50 percent.

Legacy Line

In an attempt to bolster its appeal and outflank rivals, Coach in the fall introduced the Legacy line, a take on the simple, classic bags the company was first known for. Coach’s most significant product debut since 2001, Legacy failed to halt falling sales during the holiday season.

The challenge facing Coach became clear yesterday when it reported fiscal second-quarter earnings that trailed analysts’ estimates. Net income rose 1.5 percent to $352.8 million, or $1.23 a share, in the three months ended Dec. 29, from $347.5 million, or $1.18, a year earlier, the New York-based company said. Analysts projected $1.28, the average of estimates compiled by Bloomberg. Revenue increased 3.8 percent to $1.5 billion, trailing the $1.6 billion average estimate.

Now, Frankfort is taking a page from his rivals. Both Michael Kors and Tory Burch have built lifestyle brands that move across multiple categories -- from shoes to bags to coats. Deborah Lloyd, creative director at Kate Spade, in recent years has expanded that brand beyond its boxy handbag franchise.

Quirky Tastes

Kate Spade apparel reflects Lloyd’s quirky tastes. Ralph Lauren has built his brand around the upper-crust English country life and the American West. Michael Kors sells itself as a destination for jet setters. Tory Burch’s brand revolves around her life as a successful fashion arbiter and single mom.

And what does Coach stand for?

Asked the question by analysts, CEO Frankfort said the bag maker is “loved and trusted,” its products seen as well-made and durable. He described “the Coach woman” as intelligent and self-assured. “She is looking for product not to overwhelm her but to complement her lifestyle.”

For Freedman, the description verged on generic.

She wonders “how you turn a leather-craftsman heritage into a lifestyle brand without significant marketing.”

Expanding Coach’s footwear beyond casual sneakers also will require a “more significant investment,” North American President Mike Tucci said on the call. That will include upgrading stores, he said, without specifying how much this would all cost.

Margin Squeeze

Coach currently generates gross margin -- or earnings left after subtracting the cost of goods -- of more than 72 percent. Michael Kors’s margin was 59.9 percent in the holiday quarter and Ralph Lauren’s (RL) 59.2 percent, analysts estimate on average. Shifting more aggressively into women’s apparel could reduce Coach’s gross margin by several percentage points over the long term, Freedman said.

The new strategy is risky and seems like a “reactionary” response to increased competition, she said.

In an e-mailed statement, Coach’s Chief Financial Officer Jane Nielsen said “these are not new categories for Coach. We have had a vibrant and profitable business in lifestyle categories such as footwear, jewelry, watches, fragrance and sunwear for years. We view these categories as a way to grow our overall business.”

The company will continue to “manage our expenses and prioritize those investments which will drive our business and enhance our brand,” she said.

Still, Coach doesn’t have a Tory Burch.

“The question is where is the authenticity going to come from?,” said Jeffry Aronsson, founder of a New York-based namesake firm that helps build fashion brands. “A brand is a reflection of the person who is leading it, that provides the authenticity, the foundation of a business.”

To contact the reporter on this story: Cotten Timberlake in Washington at ctimberlake@bloomberg.net

To contact the editor responsible for this story: Robin Ajello at rajello@bloomberg.net

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