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Owning Calvin Klein Margins Points to Warnaco Merger: Real M&A

Manny Chirico, chief executive officer of Phillips-Van Heusen Corp.,who is using acquisitions to try and turn PVH into the worlds largest apparel company, may target Warnaco. Photographer: Daniel Acker/Bloomberg

PVH Corp., owner of the Calvin Klein and Tommy Hilfiger labels, may find a takeover of Warnaco Group Inc. the cheapest way to boost operating margins that lag behind all of its biggest competitors.

PVH will “aggressively” look for acquisitions, Chief Executive Officer Emanuel Chirico said in a Bloomberg Television interview this month. The New York-based company earns less than 9 cents in operating income per dollar of sales, the lowest among its rivals including VF Corp. and Polo Ralph Lauren Corp., according to data compiled by Bloomberg. Warnaco, which has controlled the license to sell Calvin Klein jeans since 1997, is less expensive than 93 percent of U.S. apparel companies versus earnings before interest, taxes, depreciation and amortization.

Chirico, who is using acquisitions to try and turn PVH into the world’s largest apparel company, may target Warnaco after purchasing Tommy Hilfiger in its biggest deal, according to Penn Capital Management Co. Warnaco, which began as a maker of corsets more than a century ago, would help PVH increase sales in faster-growing markets outside the U.S. and cost at least $3 billion, Wells Fargo & Co. said. That would rival the amount that PVH spent to acquire Tommy Hilfiger, the second-biggest U.S. apparel takeover in history, the data show.

“It makes a lot of sense,” said Kevin Roche, a Philadelphia-based fund manager at Penn Capital, which oversees $6.5 billion including 65,000 PVH shares and 200,000 Warnaco shares. “PVH is looking for more international exposure. PVH can definitely do something in the market and seems to be looking to. Warnaco is cheap right now.”

Shoe Company

Daniel Gagnier, a spokesman for PVH, declined to comment. Deborah Abraham, a spokeswoman at New York-based Warnaco, didn’t respond to an e-mail or telephone message requesting comment.

PVH gained 3.7 percent to $70.40 today in New York. Warnaco advanced 2.5 percent to $54.06.

PVH, which traces its roots to a shoe company founded in 1876, currently trails rival apparel retailers VF and Polo in sales. PVH owns brands such as Calvin Klein, Tommy Hilfiger, Van Heusen and Izod, and holds licenses to sell brands such as Geoffrey Beene and Kenneth Cole New York.

Formerly known as Phillips-Van Heusen Corp., PVH has grown through acquisitions, including G.H. Bass & Co. in 1987, Izod in 1995, Calvin Klein in 2003 and Tommy Hilfiger last year.

While the $3.1 billion takeover of Tommy Hilfiger was the biggest in PVH’s history, according to data compiled by Bloomberg, Chirico, 54, is looking to make more deals.

‘On the Table’

“Acquisitions will be back on the table,” he said in an interview on Bloomberg Television’s “InBusiness With Margaret Brennan” July 1. “We will start aggressively looking for acquisitions beginning in the fourth quarter of this year.”

While PVH rose 84 percent since Chirico was named CEO in February 2006 through yesterday, the stock still underperformed VF and Polo, which have both more than doubled, according to data compiled by Bloomberg. Since completing the purchase of Tommy Hilfiger in May 2010, shares have fallen behind even more.

PVH generated an operating margin of 8.5 percent in the past 12 months, data compiled by Bloomberg show. That’s less than the average of 13.6 percent for its four most comparable U.S. rivals. VF, the world’s largest apparel maker, had a 13.6 percent margin, while New York-based Polo had operating income equal to 15 percent of sales, the data show.

By acquiring Warnaco, PVH would narrow the gap to Greensboro, North Carolina-based VF, which agreed this year to buy Timberland Co., Evren Kopelman, a New York-based analyst at Wells Fargo, wrote in a report to clients dated July 11.

Luxury Brands

Warnaco makes sense as a target because PVH already sells Calvin Klein apparel and Warnaco controls the licenses for the brand’s jeans, underwear and swimwear lines, according to Penn Capital’s Roche. PVH bought the Calvin Klein label in 2003 for $430 million, data compiled by Bloomberg show.

PVH may want to take advantage of bigger markups in Europe and Asia to boost profitability since both Tommy Hilfiger and Calvin Klein are considered “luxury” brands outside the U.S., according to John Kernan, an analyst at Cowen & Co. in New York.

A pair of Calvin Klein jeans that cost $70 in the U.S. may sell for about $120 in Europe, a 71 percent increase, he said.

“PVH is focused on growing overseas,” said Scott Tuhy, a New York-based credit analyst at Moody’s Investors Service. “The example of that is Tommy Hilfiger.”

Adding “higher-end” apparel brands are also attractive because they can help clothing companies combat an increase in production costs, which make up a smaller portion of the sale if the product is more expensive, Tuhy said.

Speedo Swimsuits

Revenue at Warnaco has increased at a faster pace than PVH in the past five years, after stripping out PVH’s sales from Tommy Hilfiger, data compiled by Bloomberg show. In 2010, Warnaco generated more than half of its revenue internationally, while PVH relied on the U.S. for 67 percent of its sales.

Prior to acquiring Tommy Hilfiger, the U.S. accounted for almost 90 percent of PVH’s revenue, the data show.

A deal for Warnaco, which also makes Speedo swimsuits, as well as bras and underwear, would let PVH cut overlapping expenses, said Lawrence Creatura, a Rochester, New York-based manager at Federated Investors Inc., which oversees about $360 billion. They include expenses for cotton and leather, as well as costs to transport and distribute their products, he said.

Relative Value

Warnaco is currently valued at about 7.8 times its Ebitda in the past 12 months, less than 93 percent of comparable companies, data compiled by Bloomberg show. At a price of $70 a share that Wells Fargo’s Kopelman says Warnaco could command in an acquisition, the company is still valued at 8 times next year’s projected Ebitda of $383 million, the data show.

“Clearly it would benefit PVH because the multiple is lower and they won’t have to pay up for it,” said Matt Spitznagle, an analyst at Sentinel Investments in Montpelier, Vermont, which oversees $9.5 billion, including PVH shares. “With the addition of Warnaco, they would be right up there with one of the larger apparel companies in the world.”

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