Give the Swedes credit - they know what people like when it comes to cheap chic. IKEA has stormed the world with popular (if quirky) flat-pack furniture, and now retailing giant Hennes & Mauritz (Nasdaq:HNNMY) is doing the same in the clothing world. Although H&M is still relatively unknown in the U.S., H&M operates around 2,000 stores around the world and is a major clothing retailer in much of Western Europe.
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The Quarter that Was
H&M continues to post excellent growth as people gravitate toward the company's mix of attractive styling and prices. Total sales were up 14% in the third quarter, with comparable sales up about 11%. The company has opened about 105 new stores so far this year, even though it has mentioned that a slower pace of mall openings has curtailed their near-term store expansion goals somewhat.
The reaction in Europe to these earnings was not all positive, though. The company did see a 110 basis point drop in gross margin and rising costs are the number one worry for most analysts and institutional investors. H&M is critically dependent upon cheap product sourcing as an engine of their value pricing, so rising costs in major production areas in Asia are a real threat. Nevertheless, the company did still manage to produce 20% operating income growth and boost operating margins by more than a full percentage point.
The Road Ahead
H&M is taking a methodical approach to its U.S. expansion and these stores are hardly a common site in most communities yet. That is both a blessing and a curse for other value-oriented retailers like Aeropostale (NYSE:ARO), Chicos (NYSE:CHS), Buckle (NYSE:BKE) and Gap's (NYSE:GPS) Old Navy line. Granted, competition is nothing new in retail (whether in the high-end or value-priced markets), but the last thing any retailer needs right now is a popular new option with good fashions and very competitive prices. With no reason to think that H&M is going to slow its plans to grow the U.S. business, these entrenched mall competitors will need to figure out ways to drive even more costs out of the supply chain and stay right on top of trends or they risk getting left behind. (For related reading, see Is Aeropostale A Bargain?)
The Bottom Line
Hennes & Mauritz is not a cheap stock right now, but it rarely has been during its run into becoming a major international retailer. H&M's P/E is about two-thirds higher than the apparel store average in the U.S., but H&M is growing at a double-digit rate (while most U.S. retailers are struggling to get single-digit growth). The operating margin is four times better than average, and the company has a dividend yield north of 4%.
Maybe there is some irony in that the value retailer H&M carries a premium, while a premium retailer like Nordstrom (NYSE:JWN) carries a discount. Irony aside, H&M has done a lot to earn that premium. Given that value almost never goes out of style and there are plenty of sizable markets left for H&M (North America, Japan, China), H&M has ample room to continue to grow. There will always be competition along the way, and rising supply costs is an ever-present threat as well, but H&M is a stock that growth investors might not want to leave on the rack. (For more, see Angst Among Teen Retailers.)
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