Michael Kors Holdings (KORS) Falls on Negative Analyst Commentary

(Updated - July 15, 2014 9:10 AM EDT)

Michael Kors Holdings (NYSE: KORS) is down 2.3% in pre-open trade related to negative analyst commentary related to search, margins and promotional activity. At least three sell-side firms are out cautious on the name today. Shares are down 2.3% in early trade.

One firm out negative was Sterne Agee. Analyst Ike Boruchow said while sales growth is strong, margins could be nearing the end of the run-way. He noted the company's semi-annual sale appears bigger, broader than last year. He also noted a wider sales selection has been noticed at key wholesale accounts. "While it is typically difficult to assess markdown levels at the wholesale channel, we have tracked sale/clearance styles weekly at the e-commerce websites for Macy's and Nordstrom, and we observed far more markdown SKUs in Q1 than LY," he said.

Elevated inventories is also a concern. Inventories were up 60% at the end of Q4, which was the highest growth rate of FY14, the analyst said.

The analyst sees significant margin implications from wholesale normalization. "Over the past four years, sell-throughs at the wholesale channel have been extremely high, which has resulted in a significant decrease in the rate of return/markdown reserves. In FY10, the reserve totaled 19% of gross wholesale revenues (in other words, only $0.81 of every dollar shipped to wholesale accounts was booked as revenue), but in FY14 the reserve rate had decreased 8 points cumulatively to 11%. We estimate that lower markdown/return reserves in the wholesale channel have contributed ~300bps of operating margin expansion over the past 4 years, or over 600bps to wholesale margins (contributing to the unusually high ~29% wholesale EBIT margin). This tailwind should dissipate as sales in the wholesale channel moderate, and if sell-throughs slow more quickly than planned, KORS could experience higher reserve rates and compressing margins at the wholesale channel."

The firm lowered FY15/FY16 EPS estimates to $3.95/$4.55 (from $4.00/$4.70) and cut its 12-month PT to $92 (from $100). The 'Neutral' rating was maintained.

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