Fossil Unearths Optimism Despite Falling Sales, Earnings

By Markets Fool.com


Image source: Fossil Group.

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Luxury retail has gotten hit hard in recent years, and watchmaker Fossil Group (NASDAQ: FOSL) has found itself affected dramatically by the downturn at the high end of the market. Coming into Tuesday's second-quarter financial report, Fossil investors were bracing for more large declines in revenue and net income, which they've gotten used to seeing in the past. Yet even though the numbers weren't all that encouraging, Fossil managed to give investors more than they had bargained for, and that led to a sizable jump in the stock price. Let's look more closely at what Fossil Group told its shareholders and whether the gains in the stock are warranted.

Fossil manages to hold its own

Fossil Group's second-quarter results were far from attractive, but they weren't as bad as most had feared. Net revenue fell 7%, to $685.4 million, but that was much better than the nearly 10% drop that investors were expecting to see from the watchmaker. Likewise, net income of $6 million was down nearly 90% from year-ago figures, but the resulting earnings of $0.12 per share topped the consensus forecast among those following the stock by $0.03 per share.

Looking more closely at Fossil's results, investors can see signs of shifting trends affecting the company. The watchmaker repeated its past comments that negative changes in foreign currency values hurt its results, but the impact was quite a bit softer than it had been in past quarters. Overall, net sales took a single percentage point hit due to the strong dollar, and the impact on specific categories was limited to 2 percentage points or less across the board. Global retail comparable sales once again fell 3%, with strength in the full-price store category getting offset by weakness in outlet store performance. Gross margin dropped almost 3.5 percentage points, to 51.9%, and Fossil once again blamed promotional activity as the key factor in explaining the hit.

Fossil took the biggest hit in its Americas segment, where sales fell 11%. Strength in Canada wasn't enough to overcome substantial downward pressure in Fossil's U.S. stores. Europe held up better with a 5% drop, with France and Germany helping to overcome declines in the U.K. and Russia. Asia held up the best with a sales drop of just 1%, as strength in key markets like India and China overcame weakness in Japan, Macau, and Hong Kong.

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Once again, the watch category hurt Fossil the most, suffering a 10% drop in sales. By contrast, Fossil's other products did reasonably well. Sales of leather products rose 4%, and jewelry sales climbed 2%.

CEO Kosta Kartsotis tried to see the positive elements from the report. "There are several areas of the business that performed well," he said, "although they are being masked by continued weakness in the traditional watch category, particularly among our licensed brands." The CEO pointed specifically to the Fossil and Skagen brands as growth drivers, as well as to progress in the wearables market and strong performance in its leather line as evidence that the company is on the right track.

Can Fossil dig up future growth?

Where Fossil hopes to come up with a true turnaround strategy is in following three basic tenets. First, it believes that Fossil and Skagen deserve priority over its licensed brands. Second, it intends to invest in digital and omni-channel capability to reach customers everywhere. And finally, Fossil thinks that wearable technology will be the key to its future, especially given the fact that price points in wearables are generally on a par with some of Fossil's higher-end traditional watches.

Still, Fossil's guidance indicated some immediate concerns. Third-quarter sales will drop between 2% and 6%, which is slightly more pessimistic than the current consensus forecast for a 3% revenue decline. Yet earnings of $0.15 to $0.40 per share are decidedly less than the $0.65 per share that most investors are looking to see. Similarly, the company cut the top end of its full-year earnings guidance, now expecting $1.80 to $2.65 per share for 2016 overall.

Even with those worries, however, Fossil investors were happy with the report, sending the stock up 5% Wednesday morning following the announcement. To justify those gains, Fossil will have to move forward with its strategic vision and keep finding new ways to overcome a sluggish luxury-retail environment in order to grow.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends Fossil. 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.