Company of the Week: Coach Inc. (COH)

The ModernGraham approach to investing has multiple layers to it.  Regular readers will be familiar with the first two steps; the first is to determine if the company is suitable for the Defensive Investor or the Enterprising Investor, and the second is to compare the price to the intrinsic value through quantitative analysis.  The next step in the analysis is to review the company’s management and other qualitative factors to determine how the company may compare to other companies that pass the first two steps.  In this Company of the Week series, we will delve into more detail about a specific company that performed well in the first two areas.  This week, the company chosen, Coach Inc., is currently trading very close to its 52-week low and is significantly undervalued based on the ModernGraham valuation model.

Results of Recent Valuation

Please be sure to review ModernGraham’s latest valuation of Coach Inc. in detail, but here is also a summary:

Coach Inc. is a very intriguing company for Enterprising Investors, having passed all five of the investor type’s requirements.  The company does not quite qualify for the Defensive Investor due to the short dividend history and the high PB ratio.  As a result, Enterprising Investors should feel very comfortable proceeding with further research into the company but should also compare it to other opportunities through a review of 5 Low PEmg Companies for the Defensive Investor and 5 Low PEmg Companies for the Enterprising Investor.  From a valuation perspective, the company looks significantly undervalued after having grown its EPSmg (normalized earnings) from $2.03 in 2010 to an estimated $3.19 for 2014.  This demonstrated level of growth outpaces the market’s implied estimate of 3.52% earnings growth, and leads the ModernGraham valuation model to return an estimate of intrinsic value that is well above the market price.

Further Analysis

Price trend compared to the market

In the following chart, it is clear that in the past year, the market has responded with significant negative sentiment towards Coach, as the price has dropped by more than 28% in a 12-month period while the S&P 500 is up more than 15% during that same period. Intelligent Investors know that the price trend has nothing to do with value, but this portion of an analysis can be useful in trying to understand Mr. Market’s movements.  With Coach, the earnings growth has slowed and there may even be a drop in EPS in 2014 over 2013; however, the normalized earnings (EPSmg) still will show a rise, and it would appear that Mr. Market may be overreacting in this case.

COH data by YCharts

Earnings Per Share

The next chart shows Coach’s earnings over the last 12 years.  The latest dip is just the second significant dip in earnings that the company has shown during this period, and with a company this large it can be expected that it will be able to weather any downturn.

COH EPS Diluted (TTM) data by YCharts

Dividend Rate & Yield

This next chart is very interesting.  The first portion shows the rise in the dividend rate over the last 5 years, and the second shows the very large rise in the dividend yield over the same period.  At the current price, an investment in Coach would yield a very strong 3.21% in dividends alone.  For perspective, only 19 of the companies rated suitable for Defensive or Enterprising Investors currently have dividend rates higher than Coach.

COH Dividend data by YCharts

Price to Book

In one final confirmation that Coach would seem to be an excellent value at this point in time, the price to book ratio is well below where it has normally been seen in the last 5 years.  As a result, it is possible we could see Mr. Market turn around and start pricing the company higher.

COH Price to Book Value data by YCharts

ModernGraham Conclusion

Coach is a very intriguing company, having qualified for both Defensive Investors and Enterprising Investors.  In addition, the quantitative analysis shows the company to be significantly undervalued, and the dividend yield is very strong.  It would seem that Mr. Market has overreacted to the slower growth rate and, as often happens, is speculating that Coach will never see success again.  However, Coach is a very large company that will be able to absorb any significant changes in earnings over a long period of time.  This is the type of company that value investors should love to find, as it appears based on fundamentals to be significantly undervalued by the market, has strong financials, and pays a solid dividend.

Management Tenets

Warren Buffett has promoted looking at some key management tenets, and I’d like to leave it up to readers to discuss how Coach fulfills (or fails to fulfill) these qualities.  Please discuss the following in the comments below:

1. Is the business simple and understandable?
2. Does the business have a consistent operating history?
3. Does the company have favorable long-term prospects?
4. Is management rational?
5. Is management candid with shareholders?

Disclosure:  The author held a long position in Coach (COH) but did not hold a position in any other company mentioned in the article at the time of publication and had no intention of changing that position within the next 72 hours.