Coach

Tech Investment Research Group

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Analysis of Coach Inc.


April 28, 2005

Chris Cotten

[email protected] Butts

Heather Stevens Ryan Kosarak Matt March

http://www.coach.com/index.asp

mailto:[email protected]


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Table of Contents

Executive Summary 2 Company & Industry Overview 5 Five Forces Model 6 Key Success Factors 9 Competitive Strategy Analysis 12 Accounting Analysis 14 Financial Ratio Analysis 23 Forecasting Methods 33 Valuations 36 Method of Comparables 38 Discounted Cash Flows 39 Residual Income Model 40 Abnormal Earnings Growth 41 Results of Valuations 42 Altman’s Z-Score 43 Final Thoughts on Coach 44 Appendix 45 Resources 58


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Coach Executive Summary

Investment Recommendation : Buy Date of Valuation : April 1, 2005

Exchange: NYSE Symbol: COH EPS ForecastPrice Per Share $55.58 FYE 2004(A) 2005 2006 200752 Week Price Range $35.98 - $59.96 EPS $1.42 $1.96 $2.03 $2.20Revenue (2004) 1.53BMarket Cap 10.45B Valuation Ratio Comparison

Coach IndustryShares Outstanding 189,600,000 Trailing P/E 32.95 15.42

Forward P/E 24.41 14.94Dividend Yield NA Forward PEG 1.31 1.323m Avg Trading Volume 2,459,000 P/B 10.77 2.54% Institutional Ownership 42.67%

Valuation EstimatesBVPS 5.17 Actual Price (April 1, 2005) $55.58

ROE 42.61% Ratio Based ValuationsROA 32.49%Est. 5 year EPS Growth 19.50% P/E Trailing $25.91

P/E Forward $33.77Cost of Capital Estimations M/B $13.15

Beta R^2 Ke PEG Forward $48.15Ke Estimate 7.00% Ford Epic Valuation $54.05Beta Since Oct 04 1.23 17.32% 7.00%3 Year Beta 0.0958 9.02% 3.57% Intrinsic Valuations2 Year Beta 0.0493 0.02% 3.41%Published Beta 1.3 Discounted Cash Flows $60.56

Residual Income $63.78Kd 3.27% Abnormal earnings Growth $63.03WACC BT 6.11% Long Run Residual Income $55.76


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Executive Summary

Recommendation: BUY

Tech Investment Research Group is announcing their coverage of

Coach Inc. After reviewing all aspects of the firm we have decided to give

Coach a BUY rating with high future predictability and a price target of $64 at

year end.

Industry Success

Coach is in the Luxury apparel and accessories industry and considers

themselves a small company with large scales. The apparel and accessories

industry has seen weak returns over the industry as a whole. Coach however

has experienced extreme success over the past several years and seems to

have found a niche in the highly competitive market. Coach has recorded

very high profit margins and has emerged as a leader in the industry. Coach

has achieved these results by selling high end quality products and

establishing a well respected and solid brand image.

Marketing Strategy

Much of Coach’s success comes from their successful marketing

strategy. Coach has been able to avoid becoming the trendy one hit wonder

company by carefully marketing their products. One thing that Coach

deliberately does not do is market to teenagers or younger people. Coach

feels that if they advertise to this group they endanger themselves of

becoming the trendy or one hot item for a season and they fear that if they

market to younger consumers they could begin to lose their large and loyal

older customer base.


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Financial Position & Growth

Coach’s current financial position is very strong and the company still

has room for further growth. Coach is currently accumulating a sizeable cash

base which they plan to reinvest into the company. Coach also has very little

debt on their balance sheet and almost no long-term debt. As a result of this

Coach has a very favorable current ratio of over 3 and a low debt to equity.

Coach also has industry leading profit and selling margins. Coach has also

been expanding their business in Japan where they have seen increasing

success. Currently Japan accounts for about 20% of all of Coach’s business.

Valuations

Coach’s common stock is currently trading at about $56 and has traded as

high as $59 over the past 12 months. Coach’s fiscal year ends on the Saturday

closest to June 30 and for fiscal year 2005 we estimate EPS of $1.93 and EPS of

$2.06 for 2006.

Investment Risks

Although Coach is currently performing very well for their market,

there are some risks for investing in stocks in the apparel and accessories

industry. Since this industry is known to follow trends one must pay close

attention to current news for the industry and the individual stocks. We

currently believe that Coach provides a great buying opportunity but this

could come to an end if Coach is not able to keep up with changing trends in

the market or they could be hurt by emerging competitors. However, Coach

is showing that they can be dominant in this type of market.


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Company & Industry Overview

Company Profile

Coach, Inc. is a leading designer, producer and marketer of classic

leather goods, accessories and furniture which was a spin off of Sara Lee in the

mid 1980’s These products include handbags, men’s and women’s

accessories, business cases, leather outerwear, gloves, scarves, travel

accessories, and personal planning products. Coach also sells home and

office furniture, footwear and watches with its licensing partners. The

products are sold through direct mail catalogs, on-line store, e-commerce

websites, 174 retail stores and its 76 factory stores. Coach focuses on

continuous improvements and anticipating the needs of consumer’s lifestyles

to maintain its stronghold of the market. Key success factors for Coach as a

manufacturer include product quality as well as marketing and design. Coach

has an exceptionally large and loyal customer base mostly due in part to

product quality. Coach takes great pride in using skilled employees, quality

natural materials, exceptional leathers, and only the finest hardware. Through

the years Coach has earned a reputation for producing a product that is

known for its durability, craftsmanship, and incomparable product quality. In

2004 Coach added 19 new stores alone. Coach has become one of the most

well recognized brands in the United States and is rapidly gaining recognition

internationally, especially in Japan.


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Industry Profile

The Apparel and Accessories Industry is very competitive because

companies must find a way to constantly year after year capture market share

in a market that is constantly changing to fit consumers taste. Many of the

company’s that enter this market fail because they come out with a very

popular style for their product on year then they rapidly expand only to have

their product fall quickly out of style. The ability to keep up with changes in

fashion trends and find a niche in the market usually determines which

companies can survive in this highly competitive market.

Five Forces Model

Competitive Force 1: Current Competitors

Currently there are very few competitors for Coach and no major

competitors of their size. Coach currently has a market cap of $10.6B or just

over 22% of the entire Apparel and Accessories Industry.

Coach has done an excellent job of establishing their brand to

consumers. This has enabled Coach to constantly attract new customers while

retaining current customers year after year. Also, unlike its competitors has

been able to drive their sales on rising prices which says that consumers are

generally not concerned with the price of their products but more on product

quality. This is why some of the lower priced brands like Dooney & Bourke

have had little effect on Coach as a direct competitor.

Coach has recently decided to keep their current prices ($229 average

handbag price) after high-priced competitor Louie Vuitton raised prices 5%.


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This increases the spread between Coach and their competitors which gives

Coach more range in the “affordable luxury” segment.

Competitive Force 2: Threat of New Entrants

New entrants into the Apparel/Accessories industry pose an average

risk to a company like Coach. Since brand image in this industry is very

important, companies that have established themselves as leading brand

have a distinct advantage over new companies.

Coach has an even better advantage over new entrants into the

“affordable luxury” because of the higher price range. This is true because

when making expensive purchases people tend to stay with what they know

and trust and are less likely to purchase a product they are unfamiliar with.

Coach also has been able to hold off new entrants because of their

marketing strategy. Coach markets to older consumers and deliberately does

not market to younger consumers because when this happens the older

customers will start moving away from the product if they believe that the

brand has become too trendy to young people. Coach also avoids having the

one hot item or trying to figure out the new trend for teens which is what many

new entrants attempt to provide only to have the product fall out of favor the

next year.

By keeping their strategy of a constant line of quality products

marketed to their more mature core group of customers we believe that

Coach will remain popular and will also continue to strive in their market and

separate themselves from new entrants.


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Competitive Force 3: Threat of Substitute Products

The threat of substitute products to a company such as Coach is

relatively high depending on how you look at the situation at Coach.

There are two types of substitute products that could pose a threat to the

company: alternant brands and counterfeits. As stated earlier, brand name

and product quality are what drive sales in the Apparel/Accessories industry

which is why currently Coach is not threatened by other brand names.

However, a few quarters of lousy product offerings or poor quality products

can drive down the brand equity that Coach has created and alternant brands

could benefit which would cause problems for the company.

The second substitute product that could cause a problem for Coach is

counterfeit products. Coach works very hard to minimize the amount of

counterfeits in the market place by prosecuting individuals that make the

products and they also provide an online form so customers can report

counterfeits if they are found. These products are usually of poor quality and

are manufactured in a way that violates decent labor standards such as child

labor. Coach is very adamant about stopping counterfeiting because they can

reduce sales and brand equity that in turn are detrimental to the company.

Competitive Force 4: Bargaining Power of Buyers

The effect of Coach’s customers bargaining power on the company is

relatively low. Their price sensitivity is low due to the fact that their

customers buy specifically their products because of the brand image that

Coach possesses, the quality of the products and the popular styling of the

products. This has been proven to be true in the past because of Coach’s


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ability to increase sales and customer base while raising prices at the same

time; something that hardly any of their competitors have been able to

accomplish. Coach’s customers also have a low relative bargaining power

because they offer many different products at different prices to a very large,

expanding customer base whose purchase volume is usually very small.

Coach customers do have a few choices when it comes to alternative products

but Coach’s popularity and continued success keep the customers loyal to

their products.

Competitive Force 5: Bargaining Power of Suppliers

A very big positive advantage for Coach is that not only do their

customers have minimal bargaining power but their suppliers also have

limited power at the negotiating table. Coach’s main material used in

manufacture is leather, which can be bought from many different suppliers

around the world which gives the company options when purchasing raw

materials. Coach also buys manufactured products independently from

different countries including China, Costa Rica, Mexico, India, Italy, Spain,

Hungary and Turkey. Because of the large amount of goods Coach buys from

different suppliers they have the ability to negotiate prices with several

different suppliers.

Key Success Factors

Brand Image

The coach brand is one of the most recognized handbag and accessory

brands in the World. Coach is committed to leading the fine accessories

market by designing and producing the finest quality of accessories including


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handbags, luggage, travel accessories, wallets, outerwear, eyewear, gloves,

scarves, and fine jewelry for both men and women. Using a multi-channel

distribution strategy Coach is presently able to have 200 stores in the United

States alone with locations in eighteen countries outside the United States, as

well as a full colored catalogue and an online store at www.coach.com.

Distribution

Coach currently uses a multi-channel distribution strategy. The

products are sold through direct mail catalogs, on-line store, e-commerce

websites, 200 retail stores and its 76 factory stores. The catalog has had

increasingly popularity and has been an important advertising and sales tool

for Coach, both domestically and abroad. In addition, Coach launched its

online store at www.coach.com. Coach has also spread to various retailers

and departments stores to increase sales. To improve and market the brand,

boutiques have been set up in the department stores. Through this

distribution strategy and advertising campaign Coach has become one of the

most well recognized brands in the United States and is rapidly gaining

recognition internationally, especially in Japan.

Foreign Markets

Coach is, “America’s number one accessible luxury accessories brand,

and the fastest growing imported handbag and accessory brand in Japan.”

Without marketing and design it would not be possible for Coach to receive

such distinguished titles. In 2004 marketing and design costs reached 63.5

http://www.coach.com/

http://www.coach.com/


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million. As a result Coach was able to penetrate new markets such as Japan

and strengthen there position in existing ones. Coach recently announced the

next phase of its growth strategy Japan. It involves capitalization on the

significant growth opportunity that exists with the domestic Japanese

consumers. The company expects sales to more than double during the next

four years to over 80 billion yen by 2009. Furthermore, Coach announced that

it is strengthening its leadership team at Coach Japan, or CJI, later this spring.

Coach will also add two executives who will be responsible for all Coach

retail and factory store strategy and operations. In addition, CJI will shortly

be announcing the appointment of its first Executive Vice President and Chief

Operating Officer, a new position for the company. The Chief Operating

Officer will spearhead logistics initiatives as well as oversee administrative,

finance and information technology functions.

Product Lines & Expansion

Coach, Inc. has consistently fashioned their product line to coexist with

the newest styles and seasons. This Spring Coach is introducing a new

“scribble line” that consists of a poly cotton material and bright colors. These

new products were tested at fifteen stores and were “enormously well

received”, says CEO Lew Frankfort. Coach Inc. is expecting to increase sales

in February thanks to the new “scribble line” and Valentine’s Day.

In an effort to keep up with the broadening competition Coach, Inc. has

is planning to add up to nine more stores in the United States along with two

more in Japan. Coach Inc. sales have been helped by the recent innovative

accessories such as the PDA leather holder.


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Competitive Strategy Analysis

The retail industry is prone to constant changing market trends and

consumer preferences. When selling an existing product to a new market

creativity is the most important factor. That is why in April 2004 Coach hired a

new designer to spruce up its image with fun designs so Coach could continue

to compete in the fast pace industry. Coach piloted each new style in a select

retail store to develop feedback on the new designs. Then, before the styles

were launched they evaluated each ones success in the different stores and

made changes based on the extensive evaluations. Coach’s revamped image

was a success and doubled their sales in a market with slow growth

opportunities.

Impartial customer feedback is the key to spotting changes in trends

before competition. Coach conducts over 10,000 customer interviews a year,

and their extensive study and use of the information gained from the customer

feedback is the

reason why Coach was able to gain market share and change their image.

Back in 2000 Coach selected digital Impact, an internet direct marketing (e-

marketing) firm, to conduct their business services in order to better

communicate with customers. Digital Impact helped Coach gain a better

competitive advantage through mass personalization and conforming to the

unique individual interests of its customers.

Brand identification is another important success factor for Coach.

Coach originally had a market advantage due to the high demand for the few

classic styles of handbags they offered. However, as the market evolved and


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Coach expanded from handbags to a full life style brand. Coach still continues

to embody the original principles of there classic design in each added

shape, style and material. The traditional hangtag on the side of Coach’s

handbags represents the original style and is distinct and recognizable to

Coach’s craftsmanship.

Coach is the leading retailer of premier leather goods for both men and women in

the United States. Even though Coach’s products are expensive and its competitors are

Gucci, Louis Vuitton, Fendi, and many other prestigious designers, Coach’s brand is well

know and distinguishable by its exceptional quality and classic American style. A solid e-

marketing strategy and brand loyalty has given Coach an upper-hand in the hyper

competitive retail environment.

http://coach.com/shop/product_nobefree.asp?product_no=6918&category_id=311



http://coach.com/shop/product_nobefree.asp?product_no=6777&category_id=164&show_bc=1&easyask_id=




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Accounting Analysis

In order to gain an understanding of Coach we must first analyze their

overall accounting quality. This includes several different types of qualitative

and quantitative measures and indicators. These measures consist of

examining key policies, accounting flexibility, accounting strategy, potential

red flags and several sales and expense manipulation diagnostics.

1. Key Accounting Policies

The fiscal year for Coach Inc. ends on the Saturday nearest to June 30th

of each year instead of the normal Dec, 31st. This is done in part because a

large majority of Coach’s business comes during the closing months of the

calendar year. The fiscal year ending on July 3, 2004 was a 53 week year

while fiscal years 2003 and 2002 were normal 52 week periods. The extra

week of operations in 2004 provided for an additional $19.5 million in sales.

Coach’s inventories which consist of mainly finished products are

valued using two different methods. All U.S. inventories are valued using the

lower of cost or market (determined by FIFO), while all Japanese inventories

are valued by using the lower of cost or market (determined by LIFO)

method. At the conclusion of fiscal 2004, LIFO inventories were $2,409 higher

and 2003 LIFO inventories were $650 higher that if they were valued using the

FIFO method. LIFO inventory totals for the two years were $34,508 and

$23,484 respectively. Coach also reevaluates its inventories quarterly based

on changes in product demand resulting from changes in consumer

purchasing habits which could affect older merchandise that may have gone

out of favor.


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At the beginning of fiscal 2002 the Coach adopted SFAS No.144

“Accounting for the Impairment or Disposal of Long-Lived Assets”. According

to this rule, Coach examines the carrying value of all its long-lived assets for

possible impairment depending on forecasted profitability and cash flows

from the related business. In 2003 and 2004 Coach recorded no impairment

losses but did write down some assets during their reorganizing in 2002.

Coach records all sales at the point when the goods are delivered to

the consumer or shipped to the wholesaler. Coach estimates which

percentage of these sales will be discounts, returns or considered

uncollectible based on extensive historical patterns and current trends in the

marketplace. Coach also collects royalties from several different sources

consisting of license agreements from other companies that produce goods

that contain the Coach brand name.

2. Assess the Degree of Potential Accounting Flexibility

Since Coach is an apparel/accessories company there are a few areas

under GAAP where they can decide between several different accounting

policies to implement. Coach states that two main areas where they have the

greatest flexibility are accounting for inventories and stock options.

There are two methods that can be used when accounting for stock

options: the intrinsic value method and the fair value method. Coach has

adopted the intrinsic value method in their accounting for stock options.

Under this policy there are no compensation costs for stock options and

replacement stock options issued under the employee stock purchase plan.

However, under the fair value method, the costs that are charged against


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income for amortization of restricted stock units can make quite a difference

towards net income.

Coach also has the ability to choose which inventory method they

would like to use when estimating inventories. Coach has chosen in the U.S.

to use the FIFO method that tends to provide a more conservative estimate of

actual inventories. In their Japanese operations they have decided to use the

LIFO method of estimating inventory which tends to puff up or provide a more

aggressive estimate of inventory value.

3. Evaluate Actual Accounting Strategy

Coach and other companies in their industry tend to have a similar

accounting strategy. Coach spends a large amount of money on selling,

design costs and marketing which account for about 35% of net sales. Coach

also manages their inventory very efficiently by reevaluating their aging

products each quarter in case they need to write down inventories that have

become obsolete.

Coach incurred some reorganization costs in 2002 when they closed

their Lares, Puerto Rico manufacturing facility. Coach closed this facility and

terminated 394 jobs and sold off all of their fixed assets at the facility. Coach

closed the facility to take advantage of lower cost third party manufactures

and recorded reorganization costs of $3,373 for the 2002 fiscal year. This cost

included $2,229 for worker separation costs, $659 for lease terminations and

$485 for the write-down of long lived assets to net realizable value.

Coach has many leases that are for their retail, distribution and office

locations. Many of these leases offer renewal options and are depreciated


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over a straight line basis. Currently Sara Lee is a guarantor on many of

Coach’s current leases throughout the United States. Coach has begun to

make efforts to remove Sara Lee from all of their leases. All of Coach’s new or

renewed leases are independent from Sara Lee and Coach has obtained a

letter of credit equal to Sara Lee’s minimum obligation and must maintain this

letter of credit until minimum payments are less than $2 million dollars

annually which should be for about ten more years. Coach’s facilities in Japan

are leased and the leases include covenants that Coach must comply with and

is something that they have done since the beginning of the leases.

As mentioned earlier, Coach uses the intrinsic method of valuing employee stock

based compensations which include no compensation costs. Coach does a sufficient job

of noting the possible change in EPS data if they would have used the fair value method.

4. Evaluation of the Quality of Disclosure

Coach is superior in the way they disclose financial information to

investors. The details included go far beyond the requirements for GAAP.

The large additional amounts of information describe all aspects of Coach’s

accounting quality and clearly portray the nature of their business activities to

the public.

Coach includes a section in its disclosure that lists the financial

highlights for the year. It is a clear comparison of financial data that shows the

increase/decrease from the previous years allowing investors to gain an

overall grasp of the year’s success.

In Coach’s letter to their shareholders many important elements are

discussed such as sales and the percentage increase in gross margin. It also


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includes supplementary information on the selling, general and

administrative expenses. Coach informs its investors with reasons why the

corporation was successful in comparison to previous years. Overall the

letter lists the accomplishments for the year and expresses extreme

confidence for the years to come.

Coach also incorporates a section of specific selected financial data.

Similar to its segment of financial highlights, this part however, includes

additional historical data collected from the audited consolidated financial

statements over a five year period.

The management discussion and analysis gives an exceedingly in

depth summary of Coach’s financial condition and results of their operations.

It incorporates how its revenues are generated, where the costs come from,

the factors that caused its gross margin to fluctuate and added information

from past years. The analysis also mentions the four categories of Coach are

selling general and administrative expenses: selling and advertising;

marketing and design; distribution and customer service; administrative and

information services. This section moreover includes a discussion of the

operating income and net income in addition to a description of the main

factors driving net sales. Coach also lists the consolidated statements of

income for the previous three years.

Coach includes notes to the consolidated financial statements with 21

components describing accounting policies, specific account activities, and

reasons for their balances.


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Lastly, Coach includes a segment containing information for

stockholders. This section provides general information on owning stock is an

excellent resource of its market divided history.

Coach is extremely informative in its methods of disclosure to the public.

Although the many segments are very long and in-depth the quality of

information displayed is accurate and key to understanding Coach’s business

activities and future expectations.

5. Potential Red Flags

Coach’s financial statements do not reflect many suspect practices.

There was one related party transaction in the past year that could raise a red

flag but the loan was settled and properly disclosed in the notes to financial

statements. Another interesting item we found was the increasingly large gap

between income and cash flows from operations. This probably is not that

suspect since the income has been steadily increasing and it had quite a

significant jump last year. Overall, the company does not put up very many

red flags. Most of their accounting and reporting practices are standard and

do not raise suspicion.

6. Quantitative Measures & Indicators: Explanation

To effectively analyze Coach, quantitative measures and indicators

must be analyzed. By working out several diagnostics on the company’s

financial reports, it is possible to see if they have any flaws in their

accounting. The sales manipulation diagnostics show the behavior of the

sales relative to the cash from sales, inventory, and accounts receivable. The


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core expense manipulation diagnostics show the earnings relative to

expenses.

Sales Manipulation Diagnostics

Year 2004 2003 2002 2001 2000

Net Sales /

Accounts Receivable

23.70 26.874 23.2628 29.1387 34.5406

Net Sales / Inventory 8.159 6.6285 5.2741 5.7102 5.2665

Net Sales / Cash From

Sales

1.044 1.0386 1.045 1.0355 1.0298

Note: There is insignificant information on Coach’s financial statements for other ratios.

The Net Sales / Accounts Receivable is steadily getting smaller,

indicating that people are not buying on a cash basis, or that Coach is not

collecting on their accounts receivable as quickly. However, since the

numbers are still relatively high, Coach shows few bad debts and more

money currently in the budget.

The Net Sales / Inventory is steadily increasing, with the exception of

2002. The relatively low numbers indicate that Coach is holding a big

inventory. However, the rising numbers could be a result of questionable

accounting but after reviewing the statements we believe that this only shows


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efficiency and a lack of over-anticipating sales which also indicates that sales

are growing faster than inventory.

The Net Sales / Cash From Sales would ideally be equal to one, which

Coach is very close to currently and has remained steady over the past five

years. This means that there is little to account for in terms of bad debt.

Core Expense Manipulation Diagnostics

Year 2004 2003 2002 2001 2000

Asset Turnover 1.2843 1.543 1.6329 2.3205 1.8125

Changes in CFFO/OI 1.0009 .9092 .8077 1.2226 1.5166

Accruals / Change in Sales .5696 .3817 .4531 .4189 .5790

Note: There is insignificant information available on Coach’s financial statements to determine a

value for net operating assets, pension expenses, or other employment expenses

Asset Turnover has fairly high numbers which is favorable. However,

the ratios have been decreasing indicating that Coach has a large amount of

money tied up in assets. This could be a potential problem but most of the

money is invested into short term securities that are very liquid.

Changes in CFFO / OI declined from 2000 to 2002 and then steadily

began to steadily increase after completing their restructuring at the end of

2002. This indicates an increase in cash flow from operations.

Total Accruals / Change in Sales is another that has varied over the past

five years. This ratio shows the number of sales made without the exchange of


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inventory and the change in total sales. Coach remains well below 1.0,

indicating quick recognition of sales and related expenses.

After examining all of Coach’s accounting methods we feel very

confident about the quality of Coach’s accounting practices. Coach does a

very good job of explaining which policies they use and disclose the

differences if other accounting methods were employed. Coach also

minimizes potential red flags and also performs well when analyzed using

sales and core expense manipulation diagnostics.


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FINANCIAL RATIO ANALYSIS

In order to properly evaluate a firm’s financial condition and forecast

future performance you have to first gain and understanding of the firms past

financial performance. In this section we will analyze sever key ratios. These

ratios help examine the firms liquidity, profitability, and capital structure. We

will then use these ratios to compare Coach to its competitors in their

industry. We will also forecast Coach’s future performance in the market

place.

Liquidity Analysis

The liquidity ratios make it easier to understand how well a company

meets its current liabilities by analyzing the ability to maintain enough cash on

hand to meet their upcoming debts. The results for Coach have been

improving over the past several years and have become a very liquid

company. Coach has been able recently to build up their current assets while

keeping liabilities at a minimum.

Profitability Analysis

The profitability ratios show how well a company manages its net sales

to convert them into profits. Coach has increased profitability dramatically

over the past several years. Coach has been constantly increasing their gross

profit and net profit margins while achieving a declining operating expense

ratio which is very positive.

Capital Structure Analysis

The capital structure ratios tell how the firm is financing its operations.

Coach’s debt to equity ratio has been gradually declining since their


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restructuring in 2001. Coach is currently comprised of about 75% equity with

most of their debt being short term liabilities. One main reason that Coach

has very little long-term liabilities is because they use operating leases for

most of their store locations.

Industry Competitors

Coach’s main competitors such as Dooney & Bourke, Gucci, Louie

Vitton, and Prada are either privately held or they are traded in foreign

markets. Since we can’t find a direct competitor we have decided to compare

Coach to retailers Ralph Lauren and Liz Claiborne because like Coach, they

offer a more expensive and higher quality product line.

Coach’s ratios compared to that of its competitors are very favorable at

the moment as they have greater liquidity and high selling and profit margins.

Even though Coach is doing very well in the mean time it is expected that

their growth will level off and become more stable. However, if their growth

levels off this does not necessarily mean that Coach will become less efficient

at handling their business.

Current Ratio

0.00

1.00

2.00

3.00

4.00

5.00

2000 2001 2002 2003 2004

YEAR

CR

Coach

Liz Claiborne

Ralph Lauren

Industry


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▪The current ratio of a firm is its ability to cover its current liabilities using

cash flows from its current assets. Coach’s current ratio has previously been

lower than its competition. However, since the middle of 2002 it has

exceeded the competition’s and industry’s current ratio. Since the current

ratio is well over one, Coach can proficiently cover its current liabilities from

the cash gained from its current assets. Having their assets liquid makes it

easier to pay off current liabilities.

Quick Ratio

0.00

0.50

1.00

1.50

2.00

2.50

3.00

2000 2001 2002 2003 2004

YEAR

QR

CoachLiz ClaiborneRalph LaurenIndustry

▪The quick asset ratio examines only highly liquid assets as a percentage of

current liabilities. Coach’s quick asset ratio has exceeded the industry

average since 2002. The quick asset ratio is important because it shows how

much of Coach’s current liabilities can be covered by their quick assets: cash,

accounts receivables, and securities. This solidifies the assumption that coach

can effectively pay off its current liabilities and get cash in case of an

emergency.


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Accounts Recieveable Turnover

0.005.00

10.0015.0020.0025.0030.0035.0040.00

2000 2001 2002 2003 2004

Year

AR

Tur

nove

rCoachLiz ClaibourneRalph LaurenIndustry

▪Over the past five years Coach’s accounts receivable turnover ratio has been

above the industry average considerably. This means they are collecting

their accounts receivable faster than their competitors and industry, which

allows them to reinvest that money more efficiently.

Days Supply of Recieveables

0.0010.0020.0030.0040.0050.0060.0070.00

2000 2001 2002 2003 2004

Year

Day

s Su

pply Coach

Liz ClaibourneRalph LaurenIndustry

▪Coach has maintained well below the industry average in days to receivable.


28

Inventory Turnover

0.00

1.00

2.00

3.00

4.00

5.00

6.00

2000 2001 2002 2003 2004

YEAR

Inve

ntor

y Tu

rnov

erCoach

Liz Claiborne

Ralph Lauren

Industry

▪Inventory turnover is a useful ratio in analyzing a firm’s capital management.

This ratio shows how many days it takes for inventory to complete a cycle,

from buying inventory until it leaves the balance sheet. This below average

ratio can be attributed to high acquisitions of assets leaving inventory very

large.

Days Supply of Inventory

0.00

50.00

100.00

150.00

200.00

250.00

2000 2001 2002 2003 2004

YEAR

Day

s


▪Days supply of inventory is determined by the days in a yearly cycle (365)

over the inventory turnover. Since Coach’s inventory turnover is lower than


29

the industry average it is no surprise that their days supply of inventory is

higher than the industry average.

Working Capital Turnover

0.001.002.003.004.005.006.007.008.009.00

2000 2001 2002 2003 2004

YEAR

Wor

king

Cap

ital T

urno

ver


▪Working capital turnover is calculated by dividing sales by working capital.

Coach’s working capital average has stayed below the industry and their

competition for the past five years.

Gross Profit Margin

0.00%10.00%20.00%30.00%40.00%50.00%60.00%70.00%80.00%

2000 2001 2002 2003 2004

YEAR

Gro

ss P

rofit

Mar

gin


▪Gross profit margin is determined by two key factors: the price premium that

a firm’s product or service command in the marketplace, the efficiency of a


30

firm’s procurement and production process. Coach’s gross profit margin has

steady climbed above and beyond the competitor’s and industry’s average.

This means the company is turning nearly 80% of its sales into gross profit.

The steady increase can be attributed to reducing their cost of goods sold in

relation to their revenue. By having a good profit margin, Coach has been

able to re-invest back into the company to generate future revenues.

Operating Expense Ratio

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

2000 2001 2002 2003 2004

YEAR

O E

Rat

io CoachLiz ClaiborneRalph LaurenIndustry

▪Coach is considerably above the industry average, as well as their main

competitors. This suggests that Coach is not effectively managing its selling,

general, and administrative expenses. This ratio shows how much their

operating expenses are diluting the great sales that they have put together.

Future focus should be directed towards spending less on selling, general,

and administrative expenses in generating each sales dollar.


31

Net Profit Margin

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

2000 2001 2002 2003 2004

YEAR

Net

Pro

fit M

argi

nCoach

Liz Claiborne

Ralph Lauren

Industry

▪Coach’s net profit margin has completely destroyed its competition. This

ratio show that their sales are generating more net income, which leads to the

assumption that less expenses are being used in comparison to sales.

Asset Turnover

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

2000 2001 2002 2003 2004

YEAR

Ass

et T

urno

ver Coach

Liz Claiborne

Ralph Lauren

Industry

▪Asset turnover show how well a company is turning over their assets in

relation to their sales. Inventory management, allocation of goodwill,

accounts receivable policies, and investment in PP&E are all crucial in


32

maintaining a desirable asset turnover ratio. Coach has been fairly good in all

of these elements. However, Coach has continued to stay below the industry

average since the beginning of 2002.

Return On Assets

0.00%

5.00%

10.00%

15.00%

20.00%

25.00%

30.00%

2000 2001 2002 2003 2004

YEAR

Ret

urn

On

Ass

ets

Coach

Liz Claiborne

Ralph Lauren

Industry

▪ROA is the largest measure of how much profit a firm is able to generate for

each dollar of assets invested. Coach is well above the industry’s average,

displaying that it is able to generate a higher percentage of profit for each

dollar invested in assets. Their ROA also shows that Coach is using its assets

more efficiently than others in the industry.


33

Return On Equity

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

2000 2001 2002 2003 2004

YEAR

Ret

urn

On

Equi

ty CoachLiz ClaiborneRalph LaurenIndustry

▪Return on equity ratio is the overall measure of profitability in any firm. This

ratio gives you the return for the owners of the company, the shareholders, as

a part of net income. Coach’s investors are receiving a higher return on their

investment in the company than its competition and the industry. Their return

of equity shows how effectively they are using funds to generate funds. Their

return on equity ratio has consistently beaten its competitors, making it more

intriguing to investors.

Debt to Equity

0.00

0.20

0.40

0.60

0.80

1.00

1.20

2000 2001 2002 2003 2004

YEAR

Deb

t to

Equi

ty CoachLiz ClaiborneRalph LaurenIndustry


34

▪The Debt to Equity illustrates how much debt a company is carrying

compared to its equity. Since This dropping percentage shows that Coach has

a low credit risk. This gives Coach opportunities to finance other activities

instead of worrying about how they are going to pay off their debt. However,

a low debt to equity ratio can lead to a low sustainable growth rate.

Forecasting Methods

We have also forecast what we believe will be an accurate estimate of

Coach’s future market performance over the next ten years. We have

forecasted the balance sheet, income statement, and the statement of cash

flows. On our statements we had to be careful about forecasting with the use

of the past financial ratios because of the rapid growth that Coach has

experienced over the last several years. On the sales forecast we have

started our estimated future sales growth at 20% and gradually lowered it

down to about 8%, which is much lower than the near 40% sales growth that

Coach has experienced over the past several years. Coach is currently

enjoying a gross margin of 76% and a net profit margin of 22%. We have

forecasted that these ratios will lower to about 60% and 14% over the next ten

years as the company becomes more settled in the market and their growth

levels off. We have also noticed that with Coach’s sales reaching over a

billion dollars in sales last year that their business growth will have to level off

in the near future because these growth rates are near impossible to maintain

over a long period of time. This is in agreement with most financial analysts

but we do not think that Coach’s business will slow faster than we have

estimated over the next two years. We have placed our estimates higher than


35

most analysts because of Coach’s history of beating estimates. Coach has out

preformed analyst estimates over the past ten quarters. Coach also has a

current ROE of about 33% which we have lowered to around 22%.

Recently Coach has been investing heavily into short and long term

assets while they are also beginning to accumulate a rather large sum of cash

and many analysts are interested to see what the company will do with the

money. There are several different possibilities for Coach. The most obvious

would be for Coach to begin issuing a cash dividend since that is what their

parent company Sara Lee did but this is currently impossible since Coach’s

revolving credit facility currently prohibits the company from issuing

dividends. In 2001 the board of directors authorized a stock repurchase

program to buy back $80 million of the company’s common stock. In 2003 the

board authorized an additional $100 million towards the program that expires

in 2006. At the end of 2004 the share repurchase program had $65 million left

in the program. Another interesting possibility is that just recently an article

about Tiffany & Co. stated that they could possibly be bought out by another

firm. Coach was main company mentioned in this article as a possible buyer

of Tiffany & Co. which has experienced some management and internal

problems as of late. We believe that this could be a potentially good move for

Coach since Tiffany is in the same industry as Coach and Coach has shown

strong performance as a leading retailer.

We believe that Coach will continue their strong performance in the

market and that the prospects look good for the retailer. Coach’s stock is

currently trading a little high but we believe that due to their strong profit


36

margins and accumulating cash pile and possibilities for expansion the stock

will continue to trade higher and see increasing profits.

Valuation of Coach

Valuation Models

In essence our entire report over Coach Bags has been to analyze the

company’s financial statements and to make predictions of future earnings

based on the historical and forecasted data used to predict the firm’s overall

value. We have tried to stay true and honest in our predictions because in

reality so much decision making in corporations relies on what the predictions

say. The purpose of this section of the report is to convert the forecast

predictions into an estimate of the value of our company’s stock. We will then


37

compare our calculation of the intrinsic value of the stock to the market price

of the stock to see if it is overvalued or undervalued.

To make a precise valuation of Coach our valuation models took into

account two different time horizons. We have forecasted financial information

over a restricted period of ten years and then considered the terminal value

by making estimates of the firm to infinity. Once these forecasts were made,

we estimated the cost of capital to use as a discount rate for the two different

forecasts. To ensure our estimated value of Coach was precise and free from

error we used many different approaches in the valuation process. This also

allowed us to consider all the external factors that negatively affect forecasted

data.

To apply the various models, we forecasted financial data based on

irregular earnings and book value, in addition to free cash flows. These

particular forecasts were made for a time period that spans the life of the firm.

The non-intrinsic method we used was the Method of Comparables. While the

more intrinsic methods include the Discounted Dividends Model, Discounted

Residual Income, Discounted Free Cash Flows, Long-Term Residual Income

Model, and the Abnormal Earnings Growth Model. The different models

analyze information about Coach and give those analyzing the firm an idea

about how it current market price relates to its estimated price derived from

each of the different models. All preceding discounted models are

discounted using the estimated weighted average cost of capital. When the

models are complete, a sensitivity analysis will be used to test any

discrepancies in our valuation results compared to the market value. The

sensitivity analysis should compare our assumptions made in our valuation


38

and the assumptions made by the market and analysts. Depending on the

level of confidence we have in our forecasts and assumptions about the future

business strategy of the firm, we will determine how accurate the valuation

model is. If there is great variation in our valuation of the price and the

market price, we will further examine how the differences transpired. Next,

we will vary the discount rate and growth rate to establish how changes in our

estimates would affect the outcome of our valuation. Then after our

predictions seem truthful and realistic, we will determine if the market value

of our company is overvalued or undervalued. This decision is very important

to analysts, both internal and external, to allow entities to determine the real

value of Coach.

After the valuation models are finished and the exactness of the

estimated value has been considered and looked at more closely, the proper

business strategy decisions can be made. In addition, the evaluation will give

the firm and investors a competitive advantage in influencing the firm in the

right direction for the future. However, the competitive advantage will only

arise if the analysts can determine the basis for the difference in the market

price and the estimated value. Since each model encompasses different

financial data that is forecasted based on certain assumptions about business

strategies, analysts must be cautious in determining what a realistic valuation

of the company is.

Method of Comparables

The Method of Comparables is a non-intrinsic model that is the least

reliable because it takes only the competitions information and neglects all


39

firm specific data. This method is especially insignificant to our project

because Coach has outperformed its competition so much in almost every

aspect. Coach’s closest competition is Liz Claiborne, but more than one

competitor is required for the Method of Comparables valuations. The

Method of Comparables is not considered to be one of the most precise

measures, which is seen by the range of values in the table. This range is

caused by a lack of close competitors due to Coach’s superior earnings. The

price to earnings ratio most accurately estimates the actual price of Coach’s

shares. On the other hand, the price to book was the furthest off. The price to

sales multiple depicts a much lower price than Coach’s actual price. All the

competitors have a lower price to sales multiple than Coach. This can be

attributed to them paying out less compared to what they earned. There is no

real intrinsic valuation to these ratios; therefore it fails to support the analysis.

Method Of Comparables Price Trailing P/E Forward P/E P/B P/S

Coach $56.29 32.95 24.41 10.77 7.17

Liz Claibourne $40.08 14.01 11.93 2.41 0.95

Ralph Lauren $38.32 16.16 13.59 2.39 1.24

Tiffany & Co $33.21 16.09 19.31 2.83 2.2

Industry (Excluding Coach) 15.42 14.94 2.54 1.46

Coach Price EPS Forward EPS BPS Sales56.29 1.68 2.26 5.17 7.848

Suggested Price $25.91 $33.77 $13.15 $11.48

Discounted Cash Flow Model

This model uses the weighted average cost of capital (WACC) to

estimate a share price for the firm based on a stream of free cash flows. This

model seems like a fair representation of Coach given the results of the


40

industry comparables. The characteristic of the cash flows from operations

and financing is to report these items when the cash moves around rather than

when expenses actually occur or revenues are actually earned. For this

method to reach the estimated share price of $60.56 we estimate that Coach

will need a 3.5% future growth rate. We used a beta of 1.2397 to estimate the

long term WACC of 6.11%, while the short term WACC was estimated at

3.45%. When computing the R-Squared, the beta over the long term better

explains the long term cost of equity of 6.11%. This share price of $60.56 is

about $4.00 over the current market price showing that Coach might be

undervalued.

Sensitivity Analysisg

2.50% 3.50% 4.00% 5.00%WACC 5.00% $67.24 $106.10 $154.67 NA

6.11% $44.63 $60.56 $70.46 126.477.00% $34.62 $42.28 $48.03 68.148.00% $27.29 $31.73 $34.79 $43.95

Residual Income Model

The Residual Income Model is an accounting based model in which we

use data from the past to help determine the values of the firm to see if the

firm is overvalued or undervalued. The Residual Income Model uses the

relationships between earnings per share and the cost of equity to find the

residual income. The residual income is the amount of earnings left over after

stock holders’ cost of equity is met. Next, we took the present value of the

future cash flows and add them together to give us the total present value of

residual income for the ten year forecast. Then we will compute a terminal


41

value for the Residual Income Model. To complete this we need to calculate a

perpetuity that is discounted back to the present.

Our Residual Income Valuation Model for Coach had a cost of equity of

6% and with a growth rate of 4% in residual income. We calculated a present

value that is $63.78. The results show that Coach is about $9 undervalued at

these rates and as the growth rate moves closer to 4.5% Coach could

potentially be even more heavily undervalued.


0.035 0.04 0.045 0.05Ke 0.04 $320.30 NA NA NA

0.05 $97.99 $138.61 $260.49 NA0.06 $54.12 $63.78 $79.88 $112.080.07 $35.69 $39.25 $44.24 $51.710.08 $25.70 $27.26 $29.26 $31.92

Abnormal Earnings Growth Valuation

The Abnormal Earnings Growth Model calculates the book value of

equity plus the present valued of expected future abnormal earnings.

Abnormal earnings consists of expected not income less the normalized

income multiplied by the discount rate. Therefore, it applies that if a firm has

no difference in its expected net income and the normalized earnings, then

the amount invested in the stock should not be more than the book value.

Stock is overvalued or undervalued depending on whether a company’s

expected earnings is more or less than the normal income. A low value for

abnormal earnings indicates that a firm shows negative future stock returns,

while a high value for abnormal earnings indicates that a firm shows positive

abnormal future stock returns.


42

In our calculation of Coach’s AEG we found that there was an implied

Ke of 7% and once again a growth rate of 4%. This provided us with a share

price of $63.03 or about $7 dollars undervalued.


0.035 0.04 0.045 0.05Ke 0.04 $231.87 NA NA NA

0.05 $109.34 $78.40 $79.40 NA0.06 $82.11 $78.40 $79.40 $88.940.07 $72.04 $63.03 $56.03 $50.430.08 $60.07 $54.15 $49.95 $47.14

Results of Valuations

After performing each of the valuation models you can see that not all of

the models provide a reasonable view of the firm. The method of

comparables was very far off from the results of the other models. We can

conclude that our initial estimate for Coach’s Ke of 7% was relatively accurate

since the implied Ke we found in our valuations was 7% or just a bit lower.

We also found that our growth rate at this Ke is 3.5%-4% which we feel is

appropriate for the Company. The DCF, DRI, and AEG models all seem to be

performing fairly accurately since they all show that Coach is slightly

undervalued. We have also noticed that there are other combinations of Ke

and g that would show that company is even more undervalued. Many other

analysts agree that the stock will continue to climb for some time as Coach has

shown not shown any signs of slowing business.

Currently we are confident that the stock is slightly undervalued but we

believe that further price appreciation will continue due to Coach’s ability to

outperform their industry, maintain higher profit margins and grow their

already accumulating amounts of cash and marketable securities. In addition


43

Coach has historically traded at about 34X earnings which would also support

our findings. Coach also just released a report stating that they expect their

Japanese sales to more than double over the next four years to over 80 billion

yen or about 700 million U.S Dollars which gives us further evidence that the

stock price will continue to appreciate.

Z-Score

Z-score=1.2[499,372/1028658]+1.4[430,461]

+3.3[447,657/1,028,658]

+0.6[782,286/246,372]

+1.0[1,321,106/1,028,658]

=7.058

After using Altman’s Method for calculating the Z-Score for Coach, we

found that Coach has a relatively high z-score of 7.058 (see figure above).

Since a value greater than 2.7 is needed for a good credit rating, Coach

demonstrates a high credit rating and reiterates the idea that coach can take

on some debt and not operate with so much on cash on hand. Also, this high

Z-Score indicates that Coach will not face potential trouble regarding

bankruptcy in the future. Coach’s high Z-Score can be attributed to its strong

financial performance throughout the life of their company. In addition, the

availability and cost of financing for Coach is definitely above the

competition.


44

Final Thoughts on Coach

Although our valuation of Coach is for April 1, 2005, there have

been recent developments that I believe should be noted and confirm some of

the forecasting that we have done for Coach.

Coach released their third quarter earnings on April 26, 2005 above

analysts’ expectations for the 12th straight quarter. They announced EPS of

$0.23 per share (adjusted for April 15th 2 for 1 stock split) and raised their

estimate for the fourth quarter to $0.23. Coach also said that they expected

sales for FY 2006 to pass $2 billion and EPS of over $1.13 which is over our

forecasted estimates. This positive information could possibly raise our

estimated share price even higher. Coach also announced that they will be

buying the remaining 50% of their Japanese joint venture for $225 million. I

see this as a positive move for the company because they have more than

enough cash on hand for the purchase and the additional earnings from

owning all of their Japanese operations will be shown in 2006 EPS.

This is all positive news for a company that already has lots of momentum

going in the right direction.


45

As stated earlier you need to be very careful when investing into this

industry but Coach is beginning to show that they are going to be a company

that is going to be around for a while. They have a very strong management

team, they continue to build their brand image and were added to the S&P 500

in the past year and I believe that Coach will continue their success and be a

good investment for at least the next several years.

Appendix

All of the information on forecasts and evaluations has been recorded in the Appendix.

• Previous and Forecasted Balance Sheets 46 • Previous and Forecasted Income Statements 47 • Common Sized Income Statements 47 • Previous and Forecasted Cash Flow Statements 48 • Ratio Analysis of Coach and Competitors 49 • Cost of Debt Calculation 52 • Computations of WACC & Beta 53 • Valuation Models 54


46

COACH FORECASTED BALANCE SHEET (IN THOUSANDS)Year 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014ASSETS Cash and cash equivalents $162 $3,691 $93,962 $229,176 $262,720 $359,536 $494,362 $623,390 $810,408 $976,622 $1,201,245 $1,445,699 $1,734,839 $2,047,109 $2,417,636 Short-term investments $0 $72,388 $90,589 $0 $171,723 $257,585 $378,649 $526,777 $684,810 $797,803 $877,584 $921,463 $974,908 $1,023,653 $1,100,427 Trade accounts receivable, less $15,567 $20,608 $30,925 $35,470 $55,724 $117,578 $128,969 $159,577 $169,052 $203,329 $226,385 $242,232 $258,704 $275,520 $304,582 allowances of $5,456 and $6,095, respectively Inventories $102,097 $105,162 $136,404 $143,807 $161,913 $205,180 $273,414 $335,113 $397,770 $486,465 $530,873 $593,469 $633,825 $662,437 $699,016 Deferred income taxes $8,996 $13,921 $14,123 $21,264 $34,521 $42,116 $52,645 $66,859 $80,230 $100,288 $125,360 $150,432 $180,518 $216,622 $259,946 Prepaid expenses and other current assets $6,866 $8,185 $12,174 $18,821 $19,015 $23,769 $31,018 $40,944 $51,180 $66,534 $86,494 $108,118 $135,147 $168,934 $211,168 Total current assets $133,688 $151,567 $287,588 $448,538 $705,616 $1,005,763 $1,359,057 $1,752,660 $2,193,450 $2,631,042 $3,047,942 $3,461,413 $3,917,941 $4,394,276 $4,992,775 Property and equipment, net $65,184 $72,388 $90,589 $118,547 $148,524 $175,258 $210,310 $238,050 $274,829 $305,060 $347,768 $386,023 $424,625 $462,841 $509,125 Long-term investments $15,809 $0 $0 $0 $130,000 $282,999 $396,199 $511,096 $592,872 $687,731 $795,017 $922,220 $1,060,553 $1,219,636 $1,414,777 Deferred income taxes $18,189 $19,061 $25,031 $9,112 $0 Goodwill $0 $4,924 $13,006 $13,009 $13,605 $14,421 $15,863 $16,657 $17,489 $18,364 $19,282 $20,246 $21,259 $22,321 $23,884 Indefinite life intangibles $0 $9,389 $9,389 $9,389 $9,788 $10,865 $12,060 $13,386 $14,859 $16,493 $18,308 $20,321 $22,557 $25,038 $28,293 Other noncurrent assets $63,783 $1,382 $14,968 $19,057 $21,125 $24,505 $28,181 $32,408 $37,269 $42,859 $49,288 $56,682 $65,184 $74,961 $87,705TOTAL NONCURRENT ASSETS $162,965 $107,144 $152,983 $169,114 $323,042 $508,048 $662,613 $811,597 $937,318 $1,070,507 $1,229,663 $1,405,492 $1,594,177 $1,804,798 $2,063,784 Total assets $296,653 $258,711 $440,571 $617,652 $1,028,658 $1,513,812 $2,021,669 $2,564,257 $3,130,768 $3,701,549 $4,277,605 $4,866,904 $5,512,117 $6,199,073 $7,056,559LIABILITIES AND STOCKHOLDERS EQUITY Accounts payable $7,866 $14,313 $25,819 $26,637 $44,771 $70,846 $94,614 $120,007 $146,520 $173,233 $200,192 $227,771 $257,967 $290,117 $344,007 Accrued liabilities $71,693 $82,390 $99,365 $108,273 $135,353 $209,705 $280,058 $355,221 $433,699 $512,768 $592,568 $674,202 $763,583 $858,745 $1,018,262 Revolving credit facility $0 $7,700 $34,169 $26,471 $1,699 $2,550 $3,406 $4,320 $5,275 $6,236 $7,207 $8,200 $9,287 $10,444 $12,384 Current portion of long-term debt $40 $45 $75 $80 $115 $283 $378 $480 $586 $693 $801 $911 $1,032 $1,160 $1,376 Total current liabilities $79,599 $104,448 $159,428 $161,461 $181,938 $283,386 $378,456 $480,029 $586,080 $692,930 $800,768 $911,084 $1,031,868 $1,160,466 $1,376,029 Deferred income taxes $0 $0 $0 $0 $15,791 $19,183 $25,619 $32,494 $39,673 $46,906 $54,206 $61,673 $69,850 $78,555 $93,147 Long-term debt $3,735 $3,690 $3,615 $3,535 $3,420 $6,394 $8,540 $10,831 $13,224 $15,635 $18,069 $20,558 $23,283 $26,185 $31,049 Other liabilities $511 $2,259 $2,625 $3,572 $5,025 $4,796 $6,405 $8,124 $9,918 $11,727 $13,551 $15,418 $17,462 $19,639 $23,287 Minority interest, net of tax $0 $0 $14,547 $22,155 $40,198 $49,556 $66,181 $83,944 $102,489 $121,174 $140,032 $159,323 $180,445 $202,933 $240,629TOTAL NONCURRENT LIABILITIES $4,246 $5,949 $20,787 $29,262 $64,434 $79,929 $106,744 $135,393 $165,305 $195,442 $225,858 $256,973 $291,040 $327,311 $388,111 Total liabilities $83,845 $110,397 $180,215 $190,723 $246,372 $363,315 $485,201 $615,422 $751,384 $888,372 $1,026,625 $1,168,057 $1,322,908 $1,487,778 $1,764,140 Commitments and contingencies (Note 6) Stockholders equity Preferred stock: (authorized $0 $0 $0 $0 $0 25,000,000 shares; $0.01 par value) none issued Common stock: (authorized $350 $874 $895 $1,830 $1,896 $1,896 $1,896 $1,896 $1,896 $1,896 $1,896 $1,896 $1,896 $1,896 $1,896 500,000,000 shares; $0.01 par value) issued and outstanding - 189,618,201 and 183,009,256 shares, respectively Capital in excess of par value $0 $125,277 $155,403 $214,484 $357,026 $357,026 $357,026 $357,026 $357,026 $357,026 $357,026 $357,026 $357,026 $357,026 $357,026 Retained earnings $212,753 $22,650 $105,509 $217,622 $430,461 $791,575 $1,177,547 $1,589,913 $2,020,462 $2,454,255 $2,892,058 $3,339,925 $3,830,287 $4,352,374 $4,933,497 Accumulated other comprehensive income (loss) ($295) ($487) $215 ($1,359) $2,195 Unearned compensation $0 ($1,666) ($5,648) ($9,292) Total stockholders equity $212,808 $148,314 $260,356 $426,929 $782,286 $1,150,497 $1,536,469 $1,948,835 $2,379,384 $2,813,177 $3,250,980 $3,698,847 $4,189,209 $4,711,296 $5,292,419

$361,180 $385,983 $412,461 $430,534 $433,895 $437,776 $448,047 $490,109 $522,366 $582,578 Total liabilities and stockholders equity $296,653 $258,711 $440,571 $617,652 $1,028,658 $1,513,812 $2,021,669 $2,564,257 $3,130,768 $3,701,549 $4,277,605 $4,866,904 $5,512,117 $6,199,073 $7,056,559


47

PREVIOUS INCOME STATEMENTS FORECASTED INCOME STATEMENTS

YEAR 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014Net sales $537,694 $600,491 $719,403 $953,226 $1,321,106 $1,763,677 $2,063,502 $2,393,662 $2,704,838 $2,948,273 $3,169,394 $3,391,251 $3,621,856 $3,857,277 $4,111,857Cost of sales $220,085 $218,507 $236,041 $275,797 $331,024 $414,464 $546,828 $670,225 $811,451 $972,930 $1,061,747 $1,186,938 $1,267,650 $1,350,047 $1,398,031Gross profit $317,609 $381,984 $483,362 $677,429 $990,082 $1,349,213 $1,516,674 $1,723,436 $1,893,386 $1,975,343 $2,107,647 $2,204,313 $2,354,207 $2,507,230 $2,713,826SG&A $261,592 $275,727 $346,354 $433,667 $545,617 $723,107 $846,036 $1,005,338 $1,136,032 $1,208,792 $1,331,145 $1,407,369 $1,484,961 $1,581,484 $1,685,861Reorganization costs $0 $4,569 $3,373 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0OI $56,017 $101,688 $133,635 $243,762 $444,465 $626,105 $670,638 $718,099 $757,355 $766,551 $776,501 $796,944 $869,246 $925,746 $1,027,964Interest income ($33) ($305) ($825) ($1,754) ($4,000) ($13,889) ($16,978) ($20,225) ($22,822) ($24,887) ($26,787) ($28,705) ($30,707) ($32,763) ($34,991)Interest expense $420 $2,563 $1,124 $695 $808 $889 $978 $1,075 $1,183 $1,301 $1,431 $1,575 $1,732 $1,905 $2,096Net interest expense (income) $387 $2,258 $299 ($1,059) ($3,192) ($13,000) ($16,000) ($19,149) ($21,639) ($23,586) ($25,355) ($27,130) ($28,975) ($30,858) ($32,895)EBIT $55,630 $99,430 $133,336 $244,821 $447,657 $613,105 $654,638 $698,949 $735,716 $742,965 $751,146 $769,814 $840,271 $894,888 $995,069Provision for income taxes $17,027 $35,400 $47,325 $90,585 $167,866 $232,980 $248,762 $265,601 $283,251 $286,041 $289,191 $296,378 $323,504 $344,532 $383,102Minority interest, net of tax $0 $0 $184 $7,608 $18,043 $18,945 $19,892 $20,887 $21,931 $23,028 $24,179 $25,388 $26,658 $27,991 $29,390Net income $38,603 $64,030 $85,827 $146,628 $261,748 $361,180 $385,983 $412,461 $430,534 $433,895 $437,776 $448,047 $490,109 $522,366 $582,578

COMMON SIZED INCOME STATEMENTSYEAR 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Net sales 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00% 100.00%Cost of sales 40.93% 36.39% 32.81% 28.93% 25.06% 23.50% 26.50% 28.00% 30.00% 33.00% 33.50% 35.00% 35.00% 35.00% 34.00%SG&A 48.65% 45.92% 48.14% 45.49% 41.30% 41.00% 41.00% 42.00% 42.00% 41.00% 42.00% 41.50% 41.00% 41.00% 41.00%Net interest expense (income) 0.07% 0.38% 0.04% -0.11% -0.24% -0.74% -0.78% -0.80% -0.80% -0.80% -0.80% -0.80% -0.80% -0.80% -0.80%Provision for income taxes 3.17% 5.90% 6.58% 9.50% 12.71% 13.21% 12.06% 11.10% 10.47% 9.70% 9.12% 8.74% 8.93% 8.93% 9.32%

ent Research Group

48

Coach's Fore YEAR 2014 CASH FLOW Net incom 616,779 Adjustmen to net cash Depreciati 113,076 Minority int 41,119 Reorganiz Tax benefi Decrease ( $35,979 Other non Changes in cu Increase in Decrease i Increase in Increase in Increase in Increase in $61,678 Net cash fr ,130,761CASH FLOWS U Purchases o ($137,602) Acquisitions Proceeds fr $108 Purchases o ($562,026) Net cash us ($688,012) CASH FLOW Partner contribu Repurchas ($78,943) Repayment ($220) Borrowings Repayment Equity dist Borrowings $303,844 Repayment ($364,377) Proceeds from Net cash (u ($72,222) Increase in $370,527 Cash and ca ,047,109 Cash and c ,417,636

casted Cash Flows (In Thousands)2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

S FROM OPERATING ACTIVITIESe $38,603 $64,030 $85,827 $146,628 $261,748 375,663 402,383 430,859 454,413 459,931 465,901 478,166 521,547 555,448ts to reconcile net income from operating activities:

on and amortization $22,628 $24,131 $25,494 $30,231 $42,854 68,872 73,770 78,991 83,309 84,321 85,415 87,664 95,617 101,832erest $0 $184 $7,608 $18,043 25,044 26,826 28,724 30,294 30,662 31,060 31,878 34,770 37,030

ation costs $4,569 $3,373 $0 $0t from exercise of stock options $0 $1,405 $13,793 $41,503 $106,458increase) in deferred taxes $2,661 ($5,797) ($4,969) $8,778 $11,646 $21,914 $23,472 $25,133 $26,507 $26,829 $27,178 $27,893 $30,424 $32,401 cash credits, net ($1,688) ($192) $1,482 ($969) $3,372

rrent assets and liabilities: trade accounts receivable ($3,751) ($5,041) ($5,855) ($4,545) ($20,254)

n receivable from Sara Lee $22,442 $31,437 $0 $0 $0 inventories $22,442 ($3,065) ($16,638) ($7,403) ($18,106) other assets and liabilities ($90) ($357) ($12,843) ($9,933) ($2,408) accounts payable ($6,279) $6,447 $8,671 $818 $18,134 accrued liabilities $11,154 $6,762 $9,418 $8,908 $27,080 $37,566 $40,238 $43,086 $45,441 $45,993 $46,590 $47,817 $52,155 $55,545

om operating activities $84,955 $124,329 $107,937 $221,624 $448,567 $688,716 $737,702 $789,908 $833,090 $843,206 $854,152 $876,638 $956,170 $1,018,321 $1SED IN INVESTMENT ACTIVITIES

f property and equipment ($26,000) ($31,868) ($42,764) ($57,112) ($67,693) ($107,134) ($109,121) ($119,619) ($116,939) ($122,535) ($113,945) ($114,425) ($120,732) ($127,795) of distributors, net of cash acquired $0 $0 ($14,805) $0 $0

om dispositions of P&E $2,695 $799 $1,592 $27 $58 $84 $86 $94 $92 $96 $89 $90 $95 $100f investments $0 $0 ($301,723) ($437,580) ($445,695) ($488,576) ($477,629) ($500,487) ($465,398) ($467,362) ($493,123) ($521,969)

ed in investment activities ($23,365) ($31,069) ($55,977) ($57,085) ($369,358) ($535,669) ($545,603) ($598,096) ($584,696) ($612,677) ($569,723) ($572,127) ($603,662) ($638,975)S USED IN FINANCING ACTIVITIES

tion to joint venture $0 $0 $14,363 $0 $0e of common stock $0 $0 ($9,848) ($49,947) ($54,954) ($61,463) ($62,603) ($68,626) ($67,089) ($70,299) ($65,371) ($65,647) ($69,265) ($73,317)of long-term debt ($35) ($190,040) ($45) ($75) ($80) ($172) ($175) ($191) ($187) ($196) ($182) ($183) ($193) ($205) from Sara Lee $541,047 $451,534s to Sara Lee ($573,122) ($482,971)ribution ($29,466) $0 on revolving credit facility $0 $68,300 $200,006 $63,164 $168,865 $236,565 $240,952 $264,135 $258,217 $270,574 $251,605 $252,666 $266,593 $282,188s of revolving credit facility $0 ($60,600) ($186,967) ($70,862) ($193,637) ($283,695) ($288,956) ($316,757) ($309,660) ($324,479) ($301,731) ($303,004) ($319,705) ($338,407)

exercise of stock options $0 $2,046 $20,802 $28,395 $34,141sed in) from financing activities ($61,576) ($89,731) $38,311 ($29,325) ($45,665) ($56,230) ($57,273) ($62,784) ($61,377) ($64,314) ($59,805) ($60,058) ($63,368) ($67,075) cash and cash equivalents $14 $3,529 $90,271 $135,214 $33,544 $96,816 $134,826 $129,028 $187,017 $166,215 $224,623 $244,453 $289,140 $312,271sh equivalents at beginning of period $148 $162 $3,691 $93,962 $229,176 $262,720 $359,536 $494,362 $623,390 $810,408 $976,622 $1,201,245 $1,445,699 $1,734,839 $2ash equivalents at end of period $162 $3,691 $93,962 $229,176 $262,720 $359,536 $494,362 $623,390 $810,408 $976,622 $1,201,245 $1,445,699 $1,734,839 $2,047,109 $2

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Tech Investment Research Group 49

Ratio Analysis

YEAR 2000 2001 2002 2003 2004COACHLIQUIDITY ANALYSISCurrent Ratio 1.68 1.45 1.80 2.78 3.88Quick Ratio 0.20 0.93 1.35 1.64 2.69Accounts Receiveable 34.54 29.14 23.26 26.87 23.71turnoverDays Supply of receiveables 10.57 12.53 15.69 13.58 15.40Inventory Turnover 2.16 2.08 1.73 1.92 2.04Days supply of inventory 169.32 175.67 210.93 190.32 178.53Working capital turnover 4.02 3.96 2.50 2.13 1.87

PROFITABILITY ANALYSIS

Gross Profit Margin 59.07% 63.61% 67.19% 71.07% 74.94%Operating Expense Ratio 48.65% 45.92% 48.14% 45.49% 41.30%Net Profit Margin 7.18% 10.66% 11.93% 15.38% 19.81%Asset Turnover 1.81 2.32 1.63 1.54 1.28Return on Assets 13.01% 24.75% 19.48% 23.74% 25.45%Return on Equity 18.14% 43.17% 32.97% 34.34% 33.46%

CAPITAL STRUCTURE ANALYSIS

Debt to Equity Ratio 0.39 0.74 0.69 0.45 0.31Times Interest Earned 133.37 39.68 118.89 350.74 550.08Debt Service Margin 2123.88 2762.87 1439.16 2770.30 3900.58

Coach, Inc. (COH) 49


YEAR 2000 2001 2002 2003 2004LIZ CLAIBOURNELIQUIDITY ANALYSISCurrent Ratio 2.96 2.44 2.47 2.04 2.56Quick Ratio 1.33 0.96 1.25 1.17 1.48Accounts Receiveable 10.06 9.39 8.63 8.93 9.71turnoverDays Supply of receiveables 36.29 38.88 42.29 40.88 37.57Inventory Turnover 3.24 4.09 4.14 4.55 4.85Days supply of inventory 112.73 89.35 88.11 80.23 73.32Working capital turnover 5.26 8.33 6.51 5.37 5.43


Gross Profit Margin 39.32% 39.10% 41.38% 43.56% 44.55%Operating Expense Ratio 10.16% 10.68% 9.62% 10.48% 11.10%Net Profit Margin 6.68% 6.85% 5.57% 6.22% 6.59%Asset Turnover 1.82 1.99 3.12 3.09 3.15Return on Assets 12.16% 13.63% 9.84% 10.06% 10.72%Return on Equity 17.26% 21.33% 18.18% 17.97% 17.72%


Debt to Equity Ratio 0.42 0.56 0.85 0.79 0.65Times Interest Earned 20.63 16.35 11.80 15.52 15.43Debt Service Margin N/A 12.31 N/A 19.18 20.73




YEAR 2000 2001 2002 2003 2004RALPH LAURENLIQUIDITY ANALYSISCurrent Ratio 2.09 2.05 2.57 2.33 2.53Quick Ratio 0.9 0.84 1.55 1.47 1.61Accounts Receiveable 8.4 7.37 6.36 6.23 5.72turnoverDays Supply of receiveables 43.45 49.52 57.38 58.58 63.81Inventory Turnover 2.56 2.73 3.47 3.38 3.64Days supply of inventory 142.57 133.69 105.18 107.98 100.27Working capital turnover 4.65 5.34 3.87 3.


Gross Profit Margin 55.00% 53.00% 48.00% 49.00Operating Expense Ratio 15.00% 6.00% 12.00% 11.00Net Profit Margin 8.00% 3.00% 7.00% 7.00Asset Turnove

31 3.28

% 49.00%% 10.00%% 6.00%

r 1.06 1.22 1.35 1.Return on Assets 9.00% 3.00% 9.00% 8.00Return on Equity 18.00% 7.00% 17.00% 14.00


Debt to Equity Ratio 1.09 1 0.75 0.Times Interest Earned 17.56 4.66 15.4 21.Debt Service Margin 1.66 0.69 8.9 2

19 1.16% 7.00%% 12.00%

68 0.5936 27.37

.66 N/A


Cost of Debt Calculation

BALANCE SHEET

2004/05/30

Percent of Total

LiabilitiesComputed Interest

RateValue

Weighted Rate

LIABILITIES FOR COACHCURRENT LIABILITIES: Accounts payable $44,771,000 18.17% 0.00% 0.0000% Accrued liabilities $135,353,000 54.94% 3.50% 1.9228% Revolving credit facility $1,699,000 0.69% 4.00% 0.0276% Current portion of long-term debt $115,000 0.05% 8.77% 0.0041%TOTAL CURRENT LIABILITIES $181,938,000 73.85% Deferred income taxes $15,791,000 6.41% 0.00% 0.0000% Long-term debt $3,420,000 1.39% 8.77% 0.1217% Other liabilities $5,025,000 2.04% 6.50% 0.1326% Minority interest, net of tax $40,198,000 16.32% 6.50% 1.0605%TOTAL NONCURRENT LIABILITIES $64,434,000 26.15%TOTAL LIABILITIES $246,372,000 100.00%

Weighted Average Cost of Debt 3.2694%



Wacc & Beta Estimations

Beta Estimate R-SquaredAverage Risk

Free RateYahoo

Published Beta

Historical Market Risk Premium

1.23970 17.3218516% 0.03283 1.299 0.03

Estimated Ke 7.003%

Find an implied Ke 6%

Estimated Cost of Debt 3.2694%

Short Horizon Estimated Ke 3.505%0.0739 R^2 0.042%

WACC LONG TERM BT 6.11%

WACC SHORT TERM BT 3.45%

WACC LONG TERM AT 5.81%

WACC SHORT TERM AT 3.15%



Method of Comparables

Method Of Comparables Price Trailing P/E Forward P/E P/B P/S

Coach $56.29 32.95 24.41 10.77 7.17

Liz Claibourne $40.08 14.01 11.93 2.41 0.95

Ralph Lauren $38.32 16.16 13.59 2.39 1.24

Tiffany & Co $33.21 16.09 19.31 2.83 2.2

Industry (Excluding Coach) 15.42 14.94 2.54 1.46

Coach Price EPS Forward EPS BPS Sales56.29 1.68 2.26 5.17 7.848

Suggested Price $25.91 $33.77 $13.15 $11.48



Discounted Cash Flows

Coach Free Cash Flows (In Millions Except Per Share Data) YEAR 1 2 3 4 5 6 7 8 9 10 PerpForecast Years

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014Cash Flow From Operations $688 $737 $789 $833 $843 $854 $876 $956 $1,018 $1,130 $1,150Cash Provided (Used) by Investing Activities ($535) ($545) ($598) ($584) ($612) ($569) ($572) ($603) ($638) ($688) ($700)

$153 $192 $191 $249 $231 $285 $304 $353 $380 $442 $450Free Cash Flow to FirmPV Factor BT WACC of 6.11% 6.11% 0.942 0.888 0.837 0.789 0.743 0.701 0.660 0.622 0.586 0.553

Present Value of Free Cash Flows 6.11% $144 $171 $160 $196 $172 $200 $201 $220 $223 $244

Total PV of Annual Cash Flows 6.11% $1,930

Continuing (Terminal) Value 3.5% Growth WACC=6.11%Present Value of Continuing (Terminal) Value 6.11% $9,907.76 Ke = 6.45%Value of Coach (end of 2004) 6.11% $11,838 Kd = .13%Book Value of Debt and Preferred Stock $356Value of Equity (end of 2004) 6.11% $11,482

Estimated Value Per Share 6.11% $60.56Book Value Per Share $4.13EPS $1.57 $1.83 $1.97 $2.06 $1.89 $2.04 $2.19 $2.35 $2.52 $2.71

Actual Price Per Share $56.00



Residual Income Model

Residual Income Model for Coach YEAR 1 2 3 4 5 6 7 8 9 10 PERPForecast Years

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014Beginning BE (per share) 2.66 4.13 6.06 8.11 10.31 12.61 14.92 17.25 19.64 22.25 25.04Earnings Per Share 1.47 $1.93 $2.06 $2.20 $2.29 $2.31 $2.33 $2.39 $2.61 $2.78 $3.11Dividends per shareEnding BE (per share) 4.13 6.06 8.11 10.31 12.61 14.92 17.25 19.64 22.25 25.04Ke 0.06"Normal" Income 0.25 0.36 0.49 0.62 0.76 0.90 1.04 1.18 1.34 1.50Residual Income (RI) 1.68 1.69 1.71 1.68 1.56 1.44 1.35 1.43 1.45 1.61 1.66

Present Value of RI 1.58 1.51 1.44 1.33 1.16 1.01 0.90 0.90 0.86 0.90BV Equity (per share) end 2004 4.13

Total PV of RI (end 2004) 10.69Continuation (Terminal) Value Implied Ke =6%PV of Terminal Value (end 2004) 46.23 Growth Rate = 4%Estimated Value (end 2004) $61.05Capitalize 9 months value (april 1 2005 price) $63.78

Actual Price per share end 2004Actual Price per share $56.00Growth 4.00%


ent Research Group 57


Abnormal Earnings Growth

Abnormal Earnings Growth YEAR 1 2 3 4 5 6 7 8 9 PerpForecast Years

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014EPS $1.93 $2.06 $2.20 $2.29 $2.31 $2.33 $2.39 $2.61 $2.78 $3.11DPS $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00Cum-Dividend Earnings $2.06 $2.20 $2.29 $2.31 $2.33 $2.39 $2.61 $2.78 $3.11Normal Earnings $2.06 $2.20 $2.35 $2.46 $2.47 $2.50 $2.56 $2.80 $2.98Abnormal Earning Growth (AEG) ($0.00) ($0.00) ($0.06) ($0.14) ($0.14) ($0.11) $0.06 ($0.01) $0.13 $0.04

PV Factor 0.935 0.873 0.816 0.763 0.713 0.666 0.623 0.582 0.544

PV of AEG ($0.00) ($0.00) ($0.05) ($0.11) ($0.10) ($0.07) $0.04 ($0.01)Core EPS $1.93Total PV of AEG ($0.30)Continuing (Terminal) ValuePV of Terminal Value $0.78Total PV of AEGAverage Perpetuity $2.40Capitalization Rate (perpetuity) 0.04

Value Per Share April 1 2005 $63.03

Ke 0.07g 0.04

Actual Price per share $56.00

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Resources

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Coach

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Transcript of Coach