Are Better Days Ahead for This Watch Maker?

Markets Motley Fool

It has been a dismal year for owners of watchmaker Fossil Group (NASDAQ: FOSL). The stock is down over 60% as profitability for company is non-existent, and sales trends remain negative.

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A brief rebound for the shares was helped, in part, by insider buying activity and talk in Washington D.C. about lower corporate tax rates. Investors, however, should curb their enthusiasm.

2017 recap

During the second quarter, Fossil revenue fell 13% year over year. Comparable retail sales were down 11% -- gains in online activity, new smartwatches, and other wearables were not enough to make up for declines in traditional watches and jewelry.

The most important segments for Fossil are North America and watches -- its largest market and product type. The two areas fell year-over-year by 16% and 9%, respectively. Revenue to date is down 12% to $1.179 billion. As a result, the company has racked up a loss of $8.12 per share with $6.50 of that due to a one-time charge related to asset impairment and a restructuring charge of $0.13. However, adding those back, the company is still solidly in the red for the year.

Category Sales Increase (Decrease)

Q2 2017

Q1 2017

2016

2015

Watches

(9%)

(9%)

(6%)

(10%)

North America

(16%)

(17%)

(8%)

(5%)

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Mounting a resurgence

Those numbers don't leave much room for optimism, but Fossil management thinks that business will start to improve during the back half of the year. The outlook is that sales will finish 2017 down 4.5% to 8.5%. Far from great, but the range implies a big improvement for the all-important holiday shopping season.

The company has been busy this year rolling out new "fashion-first" smart watches for companies like Diesel, DKNY, Armani, and Michael Kors, as well as the namesake Fossil brand. The watches use technology from Qualcomm and Android Wear, but many are designed to look like a traditional timepiece.

Some members of Fossil's executive team must think things are looking up thanks to the new product lineup. The month of August had a flurry of insider buying totaling about 923,000 shares in the $7 to $9 range.

Even then, investors who think the stock has reached its bottom should look before jumping.

Not quite bargain bin material

While the net loss looks awful at the moment, one of my favorite indicators of value tells a different story. Free cash flow, which measures cash left over after basic operations are funded, is still in the black and remains so year after year. 

Alas, even that glimmer of hope is not enough to offset the big picture. Fossil's operating profit margin over the last year has dipped to a negative 13%, and management said it expects full-year 2017 operating margin to settle between negative 12.5% and 14.7%.

When backing out the one-time adjustments mentioned earlier, the company will yield only a paper thin 0.5% profit at best and a 2.7% loss at worse. Management might see sales trends improving the second half of the year, but the top line is still shrinking rapidly. That doesn't bode well for a rebound on the bottom line anytime soon. 

Changing consumer tastes have combined with the advent of wearable technology as major headwinds for Fossil. With so little to be optimistic about, the business should meaningfully improve before investors even consider a position in this watch maker.

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Nicholas Rossolillo has no position in any of the stocks mentioned. The Motley Fool owns shares of Michael Kors Holdings and Qualcomm. The Motley Fool recommends Fossil Group, Inc. The Motley Fool has a disclosure policy.