Fashion In Brazil: You Dont Need to Be Gisele Bundchen To Make Money

By Markets Fool.com

The fashion retail market is increasingly competitive in Brazil, especially with the arrival of large foreign groups throughout 2014. Interest is given by the size of the market -- the world's fifth largest with an annual turnover of $60 billion.

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Foreign companies, led by big names like Gap (NYSE: GPS) and Forever21, will fight for market share against the six largest local companies that hold 25% of the market. From these six companies, five of them are Brazilian and four are listed on the stock exchange.

Although promising, entering the Brazilian fashion retail market is not easy. Adapting to the Brazilian market characteristics, and learning to deal with bureaucracy for imports of goods is a tremendous challenge for new entrants. In addition, taxes on imports usually make their products less competitive in Brazil (the same product can be 25-40% more expensive in Brazil than in the US).

This scenario has caused many companies that tried to enter the Brazilian market to give up a few years later. The Spanish company Mango entered Brazil a few years ago, opened 10 stores, and eventually closed its last unit in 2013. The same happened to the British company, Topshop, who arrived with noise in 2012, but ended up closing stores claiming financial difficulties.

Profiting from the increase of the middle class

Hering (IBOV: HGTX3) is the largest apparel franchiser in Brazil. Hering operates in the market with five different brands (Hering, Hering Kids, Hering for you, PUC and dzarm) that are distributed in its more than 800 stores, and over 18,000 multi-brand retailers. It produces its products in 11 manufacturing units, which are distributed to more than 3,500 cities. These are some of the reasons why Hering is known by 90% of Brazilians.

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Through an integrated model, participating in three steps of the value chain -- supply chain, brand management and retail -- Hering achieves great results. In the last 12 months, the company reported net income of R$1.7 billion and net income of R$310 million. The strong results turned into cash to shareholders receiving a dividend yield of 4.3%. The P/E (price to earnings ratio) of Hering is 11x, offering a good buy opportunity for new shareholders.

Marisa (IBOV: AMAR3) is one of the largest Brazilian womenswear and lingerie retailers. Over the last ten years, Marisa has increased its number of stores to 400 from 149, a strategy that secured its position among the leading retailers. The focus on the middle class is also accurate -- the Brazilian middle class now consumes $500 billion per year, equivalent to the total consumption of South Africa. In addition, for the next 10 years Brazil is expected to add 16 million people to the middle class of 16 million-the current size Chilean population.

Marisas 2014 financial results were not good. Sales are falling, margins contracting, and financial results -- important due to Marisas credit card operation -- were hampered by credit quality. The management team is conducting a restructuring in order to increase store performance. A new CFO was also hired with previous experience in Renner, one of the biggest competitors of Marisa. We believe in the team and expect to see in 2015 sales increasing and margins expanding.

In the last 12 months the company achieved net revenues of R$3.3 billion and net income of R$33 million. Stock price was impacted and fell more than 50% since 2013. If team Marisa is able to make a turnaround in the results of companies, and we believe it is, the stock price should resume growth path together with the company's results.

Renner (IBOV: LREN3) is a success case for Brazilian investors. Since the departure of JC Penney (NYSE: JCP) in 2005 (JC Penney used to be the owner of Renner) and the company's migration to the Novo Mercado (Brazilian stock exchange segment for companies with high governance) the company's stock rallied more than 700%.

Renner is the largest fashion retailer in Brazil, with 238 stores in operation (94% of them located in shopping centers). Besides apparel, where Renner works with 16 different brands, the company also operates with cosmetics, accessories and footwear. As usual in the Brazilian retail, the company provides credit to its customers through Renner's credit card unit -- currently with 23.7 million cards.

In 2011 Renner bought Camicado, a leading home and decor retailer. Camicado has 59 stores, and is a well-recognized brand in Brazil. Renner also has Youcom, which specializes in fashion for young people..

Between 2009 and 2013 the company nearly doubled its net income, while maintaining an EBITDA margin above 20%, confirming its reputation for consistency and growth of financial results. The growth plan of the company is aggressive and aims for the opening of several new stores over the next few years. Despite a less attractive valuation than its competitors -- the company is traded today at a P/E of 20x -- this is the kind of company that you can invest and sleep well.

Riachuelo (IBOV: GUAR3) is the only local fashion retail company that researches, creates and produces most of its products. Integration with the manufacturing process ensures for Riachuelo customers an excellent price x quality relation, plus a short cycle between a new cloth design and its distribution to the stores. Any similarity with Zara (BME: ITX)?

Over the past five years, Riachuelo improved its business until the achievement of a gross margin at the same level of its main international competitors Gap, Zara and H&M (XOME: HMb). In the last 12 months Riachuelo had net sales of R$4.5 billion and net income of R$500 million, putting the company as one of the largest in its segment. Unlike others in the industry, Riachuelos stock is cheap, trading at 10x its profit -- at this level, the company also offer to its stockholders the best ratio of price and quality.

The Foolish Bottom Line

Fashion market in Brazil is promising -- in addition to being one of the largest in the world, market growth is also significant. Although many foreign companies went to Brazil seeking a piece of the market, few succeed. This is why investors looking to profit need to look closely at the Brazilian companies. A good start is to analyze Hering, Marisa, Renner and Riachuelo.

These four companies delivered a stable and reliable return for investors over the past few years, and despite a recent turmoil, this fragmented market still offers many growth opportunities for this group. Lets Go Shopping?

The article Fashion In Brazil: You Dont Need to Be Gisele Bundchen To Make Money originally appeared on Fool.com.

Michel Glezer has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.