sharply_done/E+ via Getty Images

sharply_done/E+ via Getty Images

In my last article on Canada Goose (NYSE:GOOS ), I took a "HOLD" stance, calling GOOS an unattractive investment at a 37X-54X P/E multiple with little to recommend it for long-term investment at the time.

Canada Goose Article (Seeking Alpha)

Canada Goose Article (Seeking Alpha)

Clearly, this was the right choice at the time. Given that in November, the markets were still frothing with upside for growth stocks and high on zero interest rates, it wasn't unexpected that many investors took some issue with this view - which I understood then, and still understand.

However, I'll always be a conservative value investor. No matter what stock I'm looking at. It could be the biggest company in the world - if I'm not getting what I view as value, I'm not touching it.

Let's see what this 36% drop has done to Canada Goose.

So, 36% later and little in terms of the company's fundamentals have changed that much. It's still one of the most well-known brands of luxury winterwear/jackets, knitwear, accessories, and similar product. It's a beloved brand - and I myself own a nice Wyndham that's probably my favorite cold-weather jacket of all time.

Product quality and appeal is not, and has never been in question when looking at Canada goose. Investment appeal is - and was back in November.

If you recall my deconstruction of GOOS in my original article, the attempt has been its DTC journey in order to effectively increase company margins. This has been an effective method, given that every DTC sale comes at a substantially higher margin than through other distributors, now over half a million dollars per year. The second attempt has been for global diversification, including penetration into APAC. APAC has a lot of global luxury spending, and GOOS is severely underrepresented in this market.

Obviously, not all products such as Parkas would go over well in geographies that never see sub-60 degree temperatures, so the company also wants to diversify its offerings. The lineup will include things like rainwear, windwear, fleece and even footwear. Of course, this product/mix means competing in very different sales categories than it has with its winterwear - and the question remains as to how this will go.

Unfortunately, 3Q22 indicates that this isn't going too well at this time.

Revenue grew by double digits, but the company's margins and earnings haven't been holding solid, with EPS missing analyst consensus. Furthermore, and perhaps more seriously, unlike many companies in other segments, GOOS cut the 2022 guidance. Retail traffic has been lower, and restrictions continue to impact appeal. This goes more in line with my own expectations, and forecasts for GOOS. Remember, when the company says FY22, they essentially mean another 1-3 months, due to their different fiscal.

There were some bright spots in the report.

DTC in mainland China? Up by 35%. Good growth here.

Well, while the impacts from continued lockdowns may indeed be temporary, the company could have and should have guided more conservative to begin with. This is something they could have done last quarter, given that even last quarter, there was nothing "new" about Omicron.

It's also important to note that not all luxury brands are created equal. What I mean by this is that "actual" luxury incumbents, including Louis Vuitton (OTCPK:LVMUY), have seen significantly better growth despite ongoing Omicron. Kering (OTCPK:PPRUY) and others - they are all up and holding up better than GOOS is. This is not a coincidence, and GOOS should be taking notes if they want to play in this arena.

Because fundamentals are good. We still saw revenue growth. We still saw an overall superb gross margin in DTC - 77.1%, that's amazing. Wholesale margins of over 50% in gross aren't bad either. And while the company is experiencing some inflation and labor costs, I will go on record saying that GOOS is like other luxury brands - it has the pricing power. Any shortcomings on the input side can be negated through price actions. I'm not worried for GOOS here.

On a high level, the growth in SG&A is starting to be a bit worrying. If you glance through the results, you'll see a 27% SG&A growth for the quarter alone. The company does mean to slow this down, but as it stands, these factors are impacting margins on an EBIT level. It's part of the reason we're seeing such revenue growth, but not actual earnings growth.

The company's forecasts assume no further increase in pandemic headwinds - which I can agree with - but also no further "economic disruptions", which I can't agree with if this refers to inflation and input cost increases/FX. It's my stance that we haven't reached the end of these.

The company remains optimistic for 2023 - which I can get behind on a revenue level - but I'll be curious to see what they do in late fiscal 2022 and early 2023 to address some of these ongoing margin issues. This is more than just sales unwinding. GOOS is down to a sub-20% operating margin.

If the company wants to play in the big leagues with luxury, then it needs to be able to do better than this. Louis Vuitton, which is orders of magnitude bigger than GOOS and sells everything from wine to vacations, has a luxury-laced operating margin of 26.7% for this fiscal (source: S&P Global). GOOS is smaller and more agile - should be able to do better.

The company points to the timing of front-loaded SG&A investments as drivers for these negative margin trends and asks investors to wait for the profit delivery of these to drive margin expansion - with 4Q22 being the supposed driver for margin expansion (except the company itself really just cut this guidance).

Timing this year was unfortunate, and it's magnified the impact, therefore, of our most recent disruptions. With the current disruptions, we have lost the sales leverage. And there is a very much more limited thing that we can do on the cost side. To be absolutely clear, this is a sales traffic -- retail traffic story that's impaired revenues and, therefore, depressed margin. And as a result, we're in the mid-teens for the year relative to the mid- to high teens range that we've been talking about throughout the year.

(Source: Jonathan Sinclair, GOOS 3Q22 Earnings Call)

Theoretically, there should be nothing stopping GOOS from climbing back up to at least high-double digits in the teens once the restrictions unwind and sales normalize, assuming GOOS aligns pricing to costs. They have been there before. With the combination of pricing power and DTC as well as hopefully declining SG&A, margins should get back to where they should be over time.

However, there are some fundamental issues to the company's product/mix that will come into play here.

Remember that GOOS margins for their primary products - the parkas - are higher than for every other product segment they have. Because playing in different categories means different competition, GOOS can't price their products at the same sort of margins, or they likely wouldn't sell much.

Because GOOS in new geographies is actually targeting these new products, that means that revenue dollars from these geographies will inevitably come at lower operating margins than for legacy products such as parkas. The company's ambition is targeting a 70% gross margin for its new products and 40% wholesale for new products. I personally think the 40% GM isn't really there in wholesale, looking at the competition, and in my valuation, I cut this to 35% at the terminal point - more aligned with where comps are, and GOOS is a new entrant into say, knitwear and the like.

I read this quite often in the earnings calls and comments: "There is no reason we shouldn't be expanding margins significantly". When a company uses language like that instead of pointing repeatedly to actual factors, I get a bit somber in terms of expectations.

All of these factors mean that I'm not exactly negative on GOOS - seen to the valuation - but I do believe we should stay grounded.

Some of you may read under the faulty impression or assumption that I do not "like" Canada Goose. I neither like nor dislike the company as an investment. It just has to provide me the opportunity to make safe money. I love the company's products.

However, the group's public comps include some of the most die-hard Luxury brands on the planet. You may call me excessive for comparing it to Louis Vuitton, Kering or similar powerhouse brands, but the fact is that this is where Canada Goose wants to play. Its price points are over a thousand dollars for a quality piece of apparel. I, therefore, consider it relevant to compare it to this, as opposed to say Hennes & Mauritz (OTCPK:HNNMY).

And the fact is, it does not compare well. Even after the drop, the blended P/E is still 38X. It still does not have a dividend. It does not have a credit rating. It's at a market capitalization of $4B. LVMH (which is Louis Vuitton) has a yield of about 1%, it has a market cap of €350 billion, which is about 87.5X that of GOOS, and is rated at A+. It also trades at 29X P/E, and in the same time period as GOOS in late November/October, it has delivered annualized returns of 27% as opposed to a 36% drop.

So, which one was the better investment?

Canada goose, as I said, is close to 38X P/E. It also has estimated EPS growth rates of around 36% for the full year, below the previous consensus. The expectation is for EPS growth to continue into 2023, with a 57% growth rate, and another 24% for 2024, averaging at around 38.4% (Source: FactSet). This estimated growth comes from the normalization of in-store traffic, return to better margins and sales, and continued DTC growth.

I consider this too generously forecasted and cut this to pre-pandemic normalization rates with a 10% growth rate at $1.4 for 2023, and $1.85/share for 2024. This is below most analysts from either S&P Global or FactSet, but it allows me to be conservative in a way that reflects some of the trends we saw this quarter - and assuming a slower/more SG&A-impacted normalization going forward.

If you value GOOS along the same lines as LVMH and allow for a 29-34X P/E for a luxury player, then the company has a potential 33% annualized upside here, to a total of 83% in 3 years. This is more or less the highest I could conceive GOOS fairly moving.

F.A.S.T Graphs Canada Goose (F.A.S.T graphs)

F.A.S.T Graphs Canada Goose (F.A.S.T graphs)

However, because forecast accuracy for this company is literally 0% on a 10% or 20% MoE-adjusted basis, as well as the company's size, foray into new untested markets, and assumptions of pre-pandemic recovery, I will not allow GOOS to be valued at the same level as LVMH or similar luxury incumbents - at least not in my targets.

24X. That's all I'm willing to pay after this quarterly, affirming some of my fears.

And I won't allow for a $2+ 2024E EPS either, but weigh my average far heavier upon what the company has actually delivered during its highs. This brings the 5-year average EPS to around $1.45, and the price to $35 Canadian.

This puts me above only one analyst from S&P Global with a $30 Canadian price target, in a range of $30-76/share - but you saw how well that $76 target served you in the past few months.

$35 Canadian represents a fair value that's properly discounted (in my view) to actual public comps that Canada Goose is trying to compare to. If you believe that GOOS, for some reason should be closer valued to LVMH multiples, let me know why - I'd be curious, given the time I spend in the space.

What I'm worried about isn't Canada Goose's legacy segment of parkas. Their parkas are loved.

It's them competing with essentially the rest of the fashion market in segments that are incredibly cut-throat, and where GOOS has no established position. Just because you make good parkas doesn't mean people are going to treat your knitwear like a Brunello Cucinelli, an Ermenegildo Zegna, or even a pair of Yankos.

I know because I buy those clothes and accessories. I am part of the market Canada Goose is targeting. And I say (and many of my friends, who also buy this stuff) say they wouldn't buy GOOS products at those, or similar price points. Shoppers in these segments, including myself, are incredibly knowledgeable. We know what we're buying, and part of what we're buying is brand recognition. Canada Goose has that in parkas, and I will happily buy their parkas. They do not in other products.

While we may be wrong, I think you'll have a hard time denying the risk in this.

There are many positive articles on Canada Goose that call for the company to go "Up". The problem I have with these, and I'm not going to mention any one specifically, is that they are typically predicated on historical rates of revenue growth and the baffling assumption that the company's products will command the same sort of appeal as their legacy products. They often completely ignore public luxury comps and base their assumptions of 40-50X+ P/E on historical one-year revenue explosions. Yes, GOOS grew EPS by double digits for 2 years. Then they didn't for 2 years. This is not necessarily indicative for the future.

I may be the harder one to hear, but I believe that I am the voice of conservativism here.

1. Buying undervalued - even if that undervaluation is slight, and not mind-numbingly massive - companies at a discount, allowing them to normalize over time and harvesting capital gains and dividends in the meantime.

2. If the company goes well beyond normalization and goes into overvaluation, I harvest gains and rotate my position into other undervalued stocks, repeating #1.

3. If the company doesn't go into overvaluation, but hovers within a fair value, or goes back down to undervaluation, I buy more as time allows.

4. I reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

This process has allowed me to triple my net worth in less than 7 years - and that is all I intend to continue doing (even if I don't expect the same rates of return for the next few years).

If you're interested in significantly higher returns, then I'm probably not for you. If you're interested in 10% yields, I'm not for you either.

If you however want to grow your money conservatively, safely, and harvest well-covered dividends while doing so, and your timeframe is 5-30 years, then I might be for you.

GOOS is a "HOLD" at this valuation.

The company discussed in this article is only one potential investment in the sector. Members of iREIT on Alpha get access to investment ideas with upsides that I view as significantly higher/better than this one. Consider subscribing and learning more here.

This article was written by

36 year old DGI investor/senior analyst in private portfolio management for a select number of clients in Sweden. Invests in USA, Canada, Germany, Scandinavia, France, UK, BeNeLux. My aim is to only buy undervalued/fairly valued stocks and to be an authority on value investments as well as related topics.

I am a contributor for iREIT on Alpha as well as Dividend Kings here on Seeking Alpha and work as a Senior Research Analyst for Wide Moat Research LLC.

Disclosure: I/we have a beneficial long position in the shares of LVMUY, PPRUY either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Options: May write a GOOS PUT within 72 hours. While this article may sound like financial advice, please observe that the author is not a CFA or in any way licensed to give financial advice. It may be structured as such, but it is not financial advice. Investors are required and expected to do their own due diligence and research prior to any investment. Short-term trading, options trading/investment, and futures trading are potentially extremely risky investment styles. They generally are not appropriate for someone with limited capital, limited investment experience, or a lack of understanding for the necessary risk tolerance involved. The author's intent is never to give personalized financial advice, and publications are to be viewed as research and company interest pieces. The author owns the European/Scandinavian tickers (not the ADRs) of all European/Scandinavian companies listed in the articles. The author owns the Canadian tickers of all Canadian stocks written about.