Did Coach Inc Get a Good Deal for Kate Spade?

In this segment from Market Foolery, Chris Hill and Jason Moser discuss major consolidation in the fashion world asCoach(NYSE: COH)will be addingKate Spade(NYSE: KATE)to its growing brand portfolio.

From the perspective of our analysts, these are two complementary businesses that will pair well together, though they're both on shakier footing than they were just a few years ago.

A full transcript follows the video.

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This video was recorded on May 9, 2017.

Chris Hill:I actually want to start,before we get into the earnings, with, I would argue, the bigbusiness story from Monday, and that isCoach buyingKate Spade for $2.4 billion.I'm curious what you think of this deal. This is a week after Coachput up some pretty good numbersin terms of their latest earnings report. Shares of Kate Spade up on the buyout, and shares of Coach were upyesterday as well. I think it's because,among other things,enough investors looked at the deal that Coach was getting here and felt like they weregetting value.

Jason Moser:Yeah,I think that's a good point there.I think, generally speaking, my wife and I were talking about this last night, I say this as the owner of a Coachbriefcase that I'm very fond of,I think this is the marrying of twofantastically mediocre businesses. AndI don't mean that necessarily to say that this is a bad deal.I think what we've seen here over the course of the last five years really, is generally,what happens in retail. Particularly, we've been talking about Coach, and how it'saffordable luxury and what not. At what point do you go from being luxury toaffordable luxury to justtotally mainstream? There was a point whereyou could see the writing on the wall withall the discounts they were listing,and the outlet stores and everything, andit became very clear that theystepped away from that affordable luxury, andthey were making the strategic move tobecome more of a lifestyle brand. AndI think that's fine.There's nothing wrong with doing that,because they really do need to figure out a way to increase volume. They'renot just handbags anymore, it'shandbags, they're getting into clothes and shoes andall sorts of other things. So, while I don't think either business on its own is atremendous opportunity forinvestors going forward, I do think thisprobably makes more sense, someconsolidation in this sector bringing together a healthy portfolio ofdifferent offerings.

And that's ultimately what Coach is doing. They'llstill talk to that lifestyle brand, andtry to bring more things out there foreverybody to peruse. It'snot just a handbag company. But, again, this is, to your point about value, I think this values Kate Spade atsomething like 16.5 times trailing earnings,which is really not that bad at all. Coach is the bigger company. Kate Spade, I think, hasplenty of opportunity of grow,particularly globally. So,I think Coach took an opportunity to get in there andmake a reasonable offer for a company thatI'm sure they'll be able to extract some value from.

Hill:I think you mentioned themediocre businesses, andI'm not going to dispute that.I will say, however, I think the brands are stronger than the businesses. I think that might be thepotential promise for investors --these are too pretty strong brands. Going back to the value point, Kate Spade, three years ago, that stock was around $40 a share. Now it's in the teens. So, the brands,I don't look at them as beingdamaged or even mediocre,I look at them as solid brands. Ifthey can get the operation part right, thenI think it can work out for them. Andyou mentioned the discount,that was a big part of the story last week with Coach. Theystarted ratcheting back the discounting, and lo and behold, theirmargins started to look better.

Moser:Yeah,go figure. At some point or another. We see it withrestaurants, we see it with retail,eventually you hit a year where yourcomparables become too easy to clear, and the businessstarts to look better just because the past really looked so bad. Coach, for a long time, was a brand that I thinkpossessed more pricing powerthan it does today.I don't know that it really does possess a whole lot of pricing power today. But,I do agree with you. I think the brands themselves are still very strong, and cantranscend lines. It doesn't have to be just a handbag company, itdoesn't have to be just a shoe company or whatever. I think they throw lifestylestrategy around, they want to become a lifestyle brand, and you think, "OK,what does that mean?"I mean, I get it, you're going to go out there and seeeverything from keychains to handbags to shoes to hats towhatever, and that's going to be the best way for thesebusinesses to monetize and growon a meaningful level. And I think, just as we see withcertain restaurants when they hit theceiling of their growth opportunity, andI think a good example here would besomething like maybeBuffalo Wild Wings. Theidea wasthey were going to start bringing moredifferent types of restaurants under their umbrella. That was thePizzaRev, that was Rusty Taco. I think Coach islooking at this very much the same way.

I think we'll see Coach continue tolook at some strategic acquisitions. It'snice to see that theydidn't feel like they needed to overpay.I think the folks over at Kate Spaderealized they were caughtin a really difficult situation, andthe writing was kind of on the wall. They saw what Coachwent through, and they knew, "This iswhere we're going to be goingif we don't figure this out." Andthat's the problem, it's not too easy to figure out. At some point or another,you have to figure out a way to get merchandiseinto the consumer's' hands. Usually,the best way to do that ismake it a price you can't pass up.

Chris Hill has no position in any stocks mentioned. Jason Moser has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Buffalo Wild Wings and Coach. The Motley Fool has a disclosure policy.