LVMH: A Strong Hold

by The U.K. Income Investor

Like a lot of stocks, French luxury goods giant LVMH (LVMH) has had a strange year so far. The Louis Vuitton owner looks ripe for a tough period due to the COVID-19 pandemic, yet you wouldn’t know that from its share price. It trades around the €400 per share mark, barely down on its opening 2020 price of circa €420 per share. We can thank global central banks for that, with the shares up 40% from their March lows.

I imagine that most readers are familiar with the company’s brands. It owns around 75 in total, drawn from right across the spectrum of luxury goods. Whether it is leather goods and jewellery, or champagne and perfume, LVMH has a business line in just about everything. Well-known names under its umbrella include the likes of Christian Dior, Bulgari, TAG Heuer and Dom Pérignon. The flagship Louis Vuitton brand currently brings in around a quarter of the company’s €54,000m annual revenue.

It would be fair to say that this one has been a major growth story. Its core brands generate a bunch of profit, while the relatively low dividend payout ratio has allowed the firm to generate large amounts of retained profit. That typically funded expansion, not to mention bolt-on acquisitions, which in turn has fuelled even more profit growth.

Throw in factors such as the rising global rich, not to mention ultra-low interest rates, and it is no wonder the stock has done so well down the years. The company has increased per-share profit at a 12% per annum clip over the past fifteen years, with share price appreciation coming in a shade higher at circa 13.5% per annum. It has paid out a further €40 per share by way of cumulative dividend cash, putting total shareholder returns comfortably over 15% per annum.

COVID-19

COVID-19 obviously throws a short-term spanner in the works. LVMH’s retail network, which spans around 5,000 stores, is an obvious short-term casualty. I’d wager that nearly all of them were closed at some point. The company has managed to secure some level of rent reductions, though the pandemic is obviously a catastrophe for most types of physical retail.

There’s also the fact that recessions tend not to be particularly good news for cyclical areas of the economy. You probably would not expect €1,750 handbags, which is roughly what Louis Vuitton gear goes for these days, to fly off the shelves quite so readily in this kind of environment.

On that note, check out the company’s 1Q20 trading update for a taste for how poor things will look this year. It is obviously a bit out of date now, but the €10,600m it booked in revenue represented a 17% drop on 1Q19 in organic terms. Asia (excluding Japan) recorded a 32% revenue drop, not surprising considering what was happening in China at the time.

Balance Sheet

LVMH is ordinarily a money spinner. Cash generated by its operating activities clocked in at circa €11,650m last year, while it spent around €3,400m on capital expenditure. The previously announced FY19 dividend of €6.80 per share implied another €3,400m or so in cash outflow. Some quick maths shows plenty of retained cash in ordinary circumstances.

Given these are most definitely not ordinary circumstances, the company has had to take some pretty drastic short-term action. It has slashed capital spending by circa 40%, while it also lowered the FY19 dividend to €4.80 per share. I estimate those actions will save the company an extra €2,300m this year.

In terms of its balance sheet, LVMH ended last year with around €6,400m in cash & short-term investments. Total financial debt stood at circa €14,900m. Keep that in mind, because the company is also on the hook to purchase American jewellery firm Tiffany for $135 per share. That is an all-cash deal, worth roughly $16,400m if my maths is correct.

Fortunately, debt has never been cheaper. The firm raised over €9,000m back in the first quarter at ridiculously low interest rates, plus a further €1,500m a few months after that. It also has untapped credit facilities available should it need them. Overall, I don’t see any issues here. Analyst profit estimates imply a return to circa €4,250m retained profit generation from next year – enough to comfortably deal with debt.

Outlook

I have owned LVMH stock for a few years now. It stands to reason that I am a long-term bull on the company and its stock. It still has a tremendous room for growth in my view, particularly in Asia ex-Japan. Fifteen years ago, revenue per share attributable to the region came in at roughly €3.50. That figure had grown to around €31.90 as of last year. It is reasonable to assume that consumers will continue to get wealthier out there, and so that figure has plenty of room to grow.

That said, here’s one thing to bear in mind. Analyst estimates have FY21 earnings at circa €14.50 per share, pretty much what the firm earned in FY19. That puts the stock at circa 27.5x forward earnings. Longer-term, I actually think the company will justify that price tag. It can throw off double-digit earnings growth for some time to come, enough to offset a degree of valuation contraction. The stock also continues to benefit from the current interest rate environment. For those reasons, I’d characterise LVMH as a strong hold right now.

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