IDEX Online Research: Tiffany to Use U.S. Slowdown as an Opportunity for Growth
March 31, 08
When Mike Kowalski, Tiffany’s chairman, stated that “the future is obscured by so much uncertainty and pessimism,” it is safe to say that he was speaking for most everyone in the diamond and jewelry industry. But Kowalski has taken a different attitude about the current environment: rather than hand-wringing and worrying, he views this as an opportunity for Tiffany & Co.
How so?
- He plans to accelerate store openings by taking advantage of great real estate deals.
- He plans to accelerate the development of new jewelry designs.
- He plans to introduce more new collections.
- He plans to increase catalog circulation which drives customers to the company’s online commerce site.
In short, he is developing compelling reasons for customers to shop in his stores.
Kowalski is keeping a tight rein on operating expenses, especially at the overhead level. But he will continue to maintain new product development efforts and sales efforts as well as focus on all of those things that generate more sales. And, he plans to raise retail prices.
This industry needs more people like Mike Kowalski, in our opinion.
Tiffany Outlook
To be sure, Tiffany’s management recognizes that the retail environment in the U.S. is tough. That market represents about half of the company’s corporate sales. But the company’s attitude is to make lemonade from lemons. Management’s forecast for 2008 is as follows:
- Robust growth in non-U.S. markets other than Japan – Through the first half of the quarter ending April 2008, Tiffany is experiencing “robust” growth in all of its international markets except Japan.
- Net corporate sales growth of 10 percent for the full year.
- A low single-digit same-store sales gain in the U.S. Currently, same-store sales are running slightly positive in its 70 American stores.
- A mid single-digit same-store sales gain internationally.
- Direct marketing sales are expected to rise by about 5 percent. This category includes online jewelry sales which were about $150 million for Tiffany in 2007.
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- Six new stores in the U.S. and 20 new international locations – This should yield a high single-digit gain in new square footage in 2008. The growth in international markets represents an acceleration from 2007’s 17 new units. Tiffany will open its first store in Spain, its first unit in Belgium, its fourth in Germany, its sixth store in London, and additional stores in China, Asia, Australia, and Japan. In the U.S., the company opened a net of six stores in 2007. In the U.S., real estate opportunities are especially attractive in the current environment.
- The opening of the first “small” 2,000 square foot store in 2008 – This store is slated to open in Los Angeles. Most of Tiffany’s stores are more than double that size, so this is a new test footprint for the company. This is about in line with the size of a typical independent jeweler’s store, and is about 25-30 percent or so larger than the typical Kay and Zale store.
- An operating margin about flat in 2008 versus 2007.
- An increase in net earnings of 5 percent to 9 percent for the full year.
- The company will discontinue the use of LIFO accounting which has a negative impact on earnings in periods of high inflation. Instead, it will shift to average cost accounting; it already uses this for internal operating reports, and it is comparable to many in its peer group.
- The company will broaden its jewelry designs.
- It will focus on diamond jewelry sales, especially in the bridal category.
- It will accelerate development of jewelry collections.
- It will implement its previously announced alliance with Swatch watch.
- It will open the first Patek Philippe salon in the U.S. in its New York Flagship Fifth Avenue store.
- Tiffany plans to modestly increase its catalog circulation in 2008, after reducing it for the past few years. We believe that Tiffany has found that catalog browsers are highly likely to place online orders; without a catalog, many people simply don’t react to an e-mail message with product offers.
Fourth Quarter Sales Strong in Non-U.S. Markets
While U.S. sales were sluggish in the fourth fiscal quarter ended January 2008, sales in non-U.S. markets were very strong, with the exception of Japan. The table below summarizes fourth quarter sales results.
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- U.S. Market –Total sales up 4 percent; same-store sales down 1 percent in the fourth quarter.
- The average ticket was up, but the total number of transactions was down.
- Sales by month were as follows: November +7 percent; December (5 percent); January -0-.
- The company’s New York Flagship store posted a 10 percent sales gain in the fourth quarter, driven entirely by spending of foreign tourists. This store now represents about 20 percent of total corporate sales, or just under $300 million in annual sales.
- Sales in Tiffany’s U.S. branches were down 4 percent in the fourth quarter. Stores in California and Florida were down about 4 percent, while sales in Hawaii were up fractionally. Sales were up in several markets, including South Coast Plaza (California), San Francisco, Chicago, Beverly Hills and the Bellagio in Las Vegas.
- Overseas tourists generated about 14 percent of total U.S. sales, up from 11 percent in 2006.
- Merchandising highlights in the U.S. market include the following:
- The strongest category was jewelry priced in the $10,000 to $50,000 range.
- The next strongest category was jewelry in the $1,000 to $10,000 price range.
- Silver below $500 was soft.
- Further, sales of jewelry priced over $50,000 were down slightly from the prior year, but the total number of transactions was up. We believe that Tiffany may have missed a few very high-dollar sales in the quarter; this likely was the reason for the slightly negative comparison.
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- Iridesse – Sales in the company’s Iridesse pearl jewelry stores were up, but were below plan. The company took a $15.5 million impairment charge related to its Iridesse store division.
- Direct Marketing – Sales in the company’s direct marketing division were down 1 percent in the fourth quarter. The average ticket for the full year in this division was $233, about flat with the prior year’s $231. Tiffany’s online sales were about $150 million in 2007, or about 80 percent of the total sales in the direct marketing division.
- Merchandising – Merchandising highlights from worldwide corporate sales include the following:
- Diamond jewelry sales were strong.
- Silver jewelry sales were up 10 percent in the fourth quarter.
- Engagement jewelry sales were strong. Bridal diamond solitaire sales were up 20 percent for the year. The average ticket for engagement rings at Tiffany was $7,000 in 2007, up from $6,500 the prior year.
- Celebration Rings posted a strong sales gain.
- Tiffany’s many collections showed solid sales gains.
- Charms – silver and gold – were in demand.
- The average ticket for silver jewelry 2007 was $196 versus $189 in 2006 (worldwide).
- The average ticket for statement jewelry in 2007 was $96,000 versus $93,000 in the prior year.
- Name designer jewelry posted a good increase in sales.
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- International Markets – Sales in Tiffany’s non-U.S. markets, which represent 41 percent of corporate sales, were up 14 percent (constant dollar basis) in the fourth quarter.
- Same-store sales in the Asia Pacific region were up 28 percent in the fourth quarter, with double-digit gains in every country in that region. Total sales in the Asia Pacific region leaped by 34 percent in the fourth quarter.
- Same-store sales in Europe were up 8 percent, with total sales up 21 percent.
- Other markets including Canada and Mexico also posted sales gains.
- Only Japan posted a sales decline – 2 percent – in the quarter. In Japan, the average ticket was up, but total unit sales were down. Silver jewelry sales were soft, but engagement and designer jewelry were strong.
- By market, Japan represents 17 percent of corporate sales, Asia Pacific is 11 percent, Europe is 8 percent, and all other international markets are 5 percent of corporate sales.
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Financial Margins Hurt by One-Time Charges
Other financial highlights from the fourth quarter include the following:
- Gross margin erosion – because of one-time costs, the company’s gross margin fell to 56.9 percent from the prior year’s 57.6 percent. Without the one-time cost – a $19.2 million charge for product obsolescence related to management’s decision to discontinue certain watch models in anticipation of the start-up of its strategic alliance with Swatch – its gross margin would have been 58.8 percent, nearly 200 basis points above the prior year. In addition, a change in product mix, an increase in wholesale diamond sales and a large LIFO provision brought pressure on Tiffany’s margin in the final three-month period of the year.
- Operating costs up 28 percent – Again, one-time charges hurt the company’s operating cost ratio and brought its operating margin down. If one-time charges are excluded, operating costs would have been up only 8 percent, slightly below the company’s total sales gain of 10 percent. The special charges which the company took in the fourth quarter include the following:
- A full reserve of $48.0 million for loans to Tahera Diamond, which filed for bankruptcy reorganization.
- An impairment charge of $15.5 million related to disappointing results in its Iridesse pearl store division.
- A contribution to the company’s Tiffany & Co. Foundation.
- Cost pressures included higher payroll, occupancy and marketing expenses.
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Tiffany’s balance sheet remains very solid. Inventory per store is down; inventory turn rose modestly to 1.0x annually. Long term debt remains a very moderate 17 percent of capitalization. The company ended the year with nearly $247 million of cash, up substantially from last year’s $192 million. Other balance sheet ratios remain solid.