Can VF Corp Thrive While Department Stores Struggle?

By Adam Levine-Weinberg Markets Fool.com

V.F. Corporation's (NYSE: VFC) large brand portfolio includes billion-dollar names like Vans, The North Face, Timberland, Lee, and Wrangler. However, that hasn't completely protected the company from challenging retail headwinds.

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In this episode ofIndustry Focus: Consumer Goods, the team digs into a listener question regarding whether VF stock is poised to bounce back. The company's international and direct-to-consumer businesses continue to grow, but it's not clear whether that will be enough to offset further declines in the domestic wholesale channel.

A full transcript follows the video.

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This podcast was recorded on Feb. 28, 2017.

Vincent Shen: Going into the mailbag,this question is from Levi Waddell, on a company thatI don't think I've actually covered previously on the show,and that isVF Corporation.Levi wrote us back in mid-January asking, "Wonderingif you guys had any thoughts on VFC? Retail is gettingcrushed right now, and a lot of VFC brands are big in mall stores. It's right around 52 week lows," orit was at the time, "Is this stock worthlooking into right now, or is the risk associated with retailtoo much for it to overcome?"

For any Foolslistening who are not familiar with this company,you'll probably recognize at least a few of the 30-ish major brands thatexist within the company's portfolio. Some of the most recognizable ones areThe North Face, Vans,Timberland,Wrangler,JanSport,Nautica. As you can tell from the handful of names I've mentioned, theirproducts span different categories. Thinkapparel, footwear,luggage, accessories, but also different segments in terms of the target markets. That includes outdoors, action sports, denim jeans, and alsoprofessional sports licensing as well.

They sell their productsthrough a pretty big network ofcompany-owned stores,but also through wholesale business, they'retrying to grow their direct-to-consumer efforts as well. This company has about a $22 billion market cap, $11.9 billion of revenue in 2016, free cash flow of over $1.2 billion.I actually have it right here,they do 20% of their businessdirect-to-consumer and over 1,500 retail stores. Overall, though,what do you think about the company?

Adam Levine-Weinberg:VFis a pretty interesting battleground stockright now. As thelistener question explained, theydefinitely have a big exposure to mall-based stores,in particular the department stores,including some of the oneswe were just talking about. So, withdepartment stores sales declining,that obviously hurts a company like VF. Then,there's actually a follow-on effect in that with the sales declining,department stores are often trying to reduce theirinventory commitments, which leads toeven bigger sales declines for suppliers like VF Corporation. So,after years of strong growth,up until around 2014,you've seen operating income, EPSand free cash flow all stagnatefor the past three years or so. So, it definitely raises the question, is VFready for a comeback or is this the new normal for them?I would say that the reasons to be optimistic about the outlook are mainly that VF has apretty good international business anddirect-to-consumer business, andboth of these are still growing,whereas the wholesale business in the U.S.,which is the part of the business that's selling todepartment stores is declining, but as a result,it's sort of similar to the Nordstromparallel that I was talking about earlier. This declining department store business in the U.S. is nownot as important to the story for the company as a whole.

So,if the international business continues to grow,and if the direct-to-consumer business continues to grow, goingforward to, that could actually offset any furtherdeclines that they see in the U.S.department store business,which would be pretty good news for VFshareholders.

For 2017, the company does expectanother decline in EPS,but a lot of that is due to the strong dollar, andwith constant currency, they're calling for a mid-single-digitincrease in EPS. Looking at valuation, the shares aren't very cheap right now, they trade for around 17 times earnings, so not reallyexpensive, but also not cheap. Thegood news is that you're getting a 3% dividend, which is a pretty good yield in thisenvironment. So, I would say that VFisn't a screaming buy right now. I think that the risk of furtherdeclines in the department store sector aredefinitely a risk that investors should be concerned about. And I thinkyou can also see trouble both other stores in the mall,including other direct-to-consumer businesses that VF runshaven't been doing any better thandepartment stores recently. So that'sdefinitely a risk, that the direct-to-consumer businessruns out of steam.

You've seen withUnder Armour,they had huge gains for many years,and they have a really strong brand as well, and that hasn't been able to overcome this sluggishretail environment. So even the great brand,it's definitely a good asset to have in the long run, but it's not aguarantee of a smooth upward climb. So, I would say that if the U.S. wholesale business can stabilize, then you could see a return to EPS growth in the coming years, and it's just aquestion of when that happens. I think that eventuallypeople will get out and start spending money on clothingagain. It's just not clear when. So, this might be a good time to take a starter position for an investor in a company like VF,because there's definitely some upside hereif they can stabilize thedeclining aspect of their business, andconcentrate on continuing to grow their international and direct-to-consumerlines. But,there's enough risk that I wouldn't gobet the farmon the stock atthis point.

Shen: Sure. Andjust to flesh out some of the points that you made,the company generates38% of its revenue through international markets. Asyou mentioned,you compared it to Nordstrom, as the part of its business that's sufferingloses share, it helps if the company can focus ondirect-to-consumer, e-commerce, and also the international markets that are seeing growth. And,the company, I should add, in terms of its yield, over 3%, which ispretty good,I'm pretty sure it's a dividend aristocrat, as well. It has a long history here.

They've also spent over $1.6 billion in 2016, same plan for 2017,returning capital to shareholders, buying back shares. They've reduced their share count by around 6% to 7% inthe past two years. It's funny,the struggles that a lot of the companies we've talked aboutearlier in the show,between Macy's, J.C. Penney, Nordstrom, allrunning into issues over the past two years. VFCorporation is very much following that same trend in terms of the timing. The stock itself, in terms of the pricing, peaked at over$66 last March, went below $50 to some of its 52-week lowsvery recently. It's recovereda little bit, it's now around $52. At a 17 times valuation,I'm in the same boat as you,it's not great but it's definitely a companythat I did not follow previously,but it's a very interesting business, I think,in terms of having that portfolio ofpretty strong brands. It's not a perfect insulation from problems in the overall retail sector, but there's some strengths there, that I think shouldn't be overlooked entirely. Otherwise, any last points for Levi?

Levine-Weinberg:Yeah,I would just say in terms of risk factors thatinvestors should be aware of, oneimportant thing is,again, chance of a recession at some point in the future. It's going to happen. We don't know when, but recessions do occur. Just as with theseother retailers, if they're not doing well right now, they'regoing to do worse during a recession. That definitely offsets some of the potential profitgrowth. Obviously, they might beable to stabilize their business in the next year or two. Butif a year or two later you have a recession,they could end up back where they are now or even worse.

A second one is, there's beena lot of rumors going around about what's known as aborder-adjusted tax thatRepublicans in Congress want to implement. This would basically penalize companies for importing goods from overseas.Retailers have really pushed back against this hardbecause they import everything from overseas. So, that alsoincludes a company like VF Corporation. They're not making a lot ofclothing in the United States. It's mostlygetting made overseas and brought to the U.S.for the 60%-plusof their business that is still domestic. So, they would not do well under that scenario,because they're going to have a much higher tax bill. So,it's certainly not clear that this border tax is going to happen,but if it does, that would definitely cause problems for a lot of retailers,but also for a company like VF.

Adam Levine-Weinberg owns shares of J.C. Penney, Macy's, Nordstrom, and Under Armour (C Shares). Vincent Shen has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Under Armour (A Shares) and Under Armour (C Shares). The Motley Fool recommends Nordstrom. The Motley Fool has a disclosure policy.