Is Hermès Out of Fashion?

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Jan 31, 2007
This is an interesting article.

Is Hermès Out of Fashion?
Sales Growth Falters
And Deal Speculation
Gets a 'Reality Check'

June 7, 2007; Page C1

For months, investors have been bidding up shares of Hermès International SA on hopes of a potential deal, making the French luxury house's stock as extravagant a purchase as some of its crocodile-skin handbags.
Now, Hermès shares may be falling out of fashion as business falters and the company's controlling family maintains that it won't sell off its 72% stake. Some investors already are heading for the exit.
Hermès shares, which are traded on the Paris exchange, have soared 44% over the past 12 months, as investors held out hope that descendants of the company's founding family would loosen their grip on the firm, possibly clearing the way toward a sale. The share-price rise is greater than that of any of its peers, even though the 8.7% profit increase posted by Hermès last year was among the lowest in the luxury-goods sector.

A collection of Hermès scarves.

Because of the family's stance, "there's a reality check about the speculation going on," says Emmanuel Soupre, a fund manager at Neuflize OBC Asset Management in Paris. Neuflize held 88,888 Hermès shares as of the end of 2006, according to FactSet Research Systems Inc. Mr. Soupre says Neuflize has sold some stock in recent months to cash in on the high price.
The stock trades at 38 times analysts' estimated per-share earnings for this year, compared with an industry average of 25, according to J.P. Morgan Chase & Co. By comparison, the largest luxury-goods player, LVMH Moët Hennessy Louis Vuitton SA, has a price/earnings ratio of 20.
The run-up in Hermès stock underscores how the dearth of luxury-goods companies up for sale is prompting investors to be ever more patient with brands that could potentially be takeover targets.
Last month, private-equity fund Permira cut a deal to buy a stake in Italy's Valentino Fashion Group SpA from the controlling Marzotto family and is now launching a €2.6 billion ($3.5 billion) bid for the entire company, paying 24 times analysts' estimated per-share earnings for this year.
Italian jeweler Bulgari SpA also has seen its price/earnings ratio jump ahead of other luxury players on takeover speculation -- even though, like Hermès, the family behind the jeweler says it isn't selling.
Hermès's valuations began getting lofty in September 2005, when the fashion house appointed the first nonfamily member to run its business. Investors took the promotion of Patrick Thomas as chief executive to mean that the family would slowly relinquish control of the company, putting one of the luxury industry's most exclusive brands in play.
But the opposite has occurred. Family members across generations have reiterated that they have no intention of selling their shares.
"Speculation about what the change of management means for Hermès has become integrated in its share price," says Laurent Dobler, the managing director at asset-management firm Comgest SA in Paris.
Comgest recently took advantage of Hermès's high stock price to whittle down its Hermès investment to 183,660 shares, according to FactSet. As of March, the stake was valued at about €18.6 million.
"Everyone hears that the family is keeping its control. I'm confident the company is not for sale," Mr. Dobler says.
In the meantime, sales and profit growth at Hermès have suffered. Last month the company lowered its full-year sales-growth target to 8% to 9% from as much as 10%.
On Monday, another investor, Banque de Financement et de Trésorie, cashed out the last of its Hermès stock after owning a high of 265,500 shares in 2003. While excitement in the luxury-goods sector is likely to remain high, says Olivia D'Orgeval, an analyst for the Crédit Agricole SA subsidiary, the deals investors are waiting for could take years to materialize. "There are so few targets in the sector, so the speculation [on Hermès] remains," she says. "But it could be one year or 10 years before anything changes."
The family behind Hermès has tried hard over the years to insulate the Parisian company from generational change that has resulted in the sale of many other family-controlled businesses.
Much of the 72% of Hermès stock that is owned by some 60 descendents of company founder Thierry Hermès is locked up in shareholder pacts. In addition, Hermès's legal structure under French law allows for a special committee made up exclusively of family members to designate the chief executive and scuttle a hostile takeover bid, regardless of how many shares it controls. The company also adopted a poison-pill resolution a year ago to provide further takeover protection.
After Hermès decided to halt production of its best-selling canvas "Fourre-Tout" bag -- which accounted for more than 10% of overall accessories sales -- at the end of 2005, sales growth in the high-margin accessories category softened to 4.6% between January and June last year.
By comparison, sales at major European luxury-goods groups rose by an average of 14% in the first six months of last year, according to Swiss bank Lombard Odier Darier Hentsch. Full-year figures weren't yet available.
Clothing also took a hit last year. The women's wear collections arrived in stores late because complicated styles from designer Jean-Paul Gaultier took longer than expected to manufacture. Sales in the division were flat.
Hermès's lower sales growth is also the result of its caution in entering new markets. The company will open its first store in India next year, several years after competitors such as Louis Vuitton and Chanel. It is trying to catch up in China by opening four boutiques this year for a total of 11, within reach of Louis Vuitton's 15 stores currently.
Faced with questions by shareholders about Hermès's slowing growth, Mr. Thomas says the company wouldn't change its conservative approach to new markets and products. "We will not favor growth at any price," he says.
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