FOSL Fossil Group Inc

Fossil Inc. (FOSL) reported fourth-quarter 2011 adjusted earnings of $1.81 per share, which exceeded both the year-ago earnings and the Zacks Consensus Estimate by 35 cents and 4 cents, respectively. The fiscal year 2011 adjusted earnings of $4.47 per share also exceeded the year-ago earnings of $3.77 per share. However, the earnings lagged the Zacks Consensus Estimate of $4.52 per share.

Adjusted earnings in the reported quarter exclude net foreign currency losses of 3 cents per share and include a favorable increase of 9 cents per share related to a lower outstanding share count as a result of the company's ongoing stock repurchase program. In fiscal 2011, adjusted earnings exclude a net foreign currency gain of 14 cents per share.

On a reported basis, earnings exceeded the prior-year results by 22.0% to $1.87 per share, while it increased 15.5% to $4.61 per share in fiscal year 2011.

Fossil’s profits were driven by double-digit sales growth across its major brands, product categories, and geographies, led chiefly  by the success of its two core global growth strategies, its accessories lifestyle business and the multi-brand watch business.

Furthermore, robust sales growth of FOSSIL brand, double-digit comparable store sales increase in the fourth-quarter, and continuous improvement in developing the infrastructure in Asia to support future growth resulted in solid performance in the year 2011.

For the first quarter of 2012, Fossil expects its earnings guidance to a range of 90 to 92 cents per share. For the fiscal year 2012, the company expects its earnings to be in a range of $5.40 to $5.50 per share.

Revenue Details

Worldwide net sales of Fossil during the quarter grew 18.5% to $830.8 million, reflecting double-digit sales growth across all of the company's operating segments. On a constant currency basis, all major watch brands reported strong double-digit sales growth of 20.6%, whereas the leather business sales climbed 23.7% in the fourth quarter 2011. Net sales of FOSSIL branded products, inclusive of Fossil branded watches, also expanded by 19.0% on a constant dollar basis.

In fiscal 2011, consolidated net sales increased 23.8% on a constant currency basis, driven by sales growth ranging from 21.9% to 27.8% in each of the company's global wholesale and direct to consumer businesses.

For the first quarter and fiscal 2012, the company expects its net sales to increase approximately 15%.

Segment Sales

Net sales from the North America wholesale segment increased 17.3% to $307.1 million, primarily driven by increase in the watch sales and leather businesses. Further, shipments from the company's subsidiaries in Canada and Mexico as well as shipments to third party distributors, located primarily in South America, also contributed to the sales growth in the quarter.

European wholesale net sales grew 18.5% year over year to $223.5 million, as all the major watch brands experienced sales volume gains in all the key markets. The leather businesses also gained in the quarter, with double-digit sales percentage gains in Germany and more than double of sales on a smaller scale of business across France and Italy. Jewelry product shipments and sales to third party distributors also contributed to the sales growth.

Net sales in the Asia-Pacific wholesale segment increased 15.7% to $86.4 million, driven by increases in the company’s watch sales, partially offset by a decrease in non-strategic businesses that the company has exited over the last twelve months.

Direct-to-Consumer segment net sales grew 22.6% year over year to $213.8 million, primarily due to profits in the constant dollar comparable store sales and an increase in the average number of company-owned stores open in the quarter. The company’s e-commerce Business segment revenues also gained momentum in the quarter.

Margins

Fossil’s gross margin in the quarter contracted 100 basis points (bps) to 56.1% in the reported quarter. The downswing in gross profit margin was largely driven by inflation in watch components and labor costs throughout the year, as well as increases in sales to off-price retailers at reduced margins. In fiscal 2011, gross profit margin decreased 80 bps to 56.1%, primarily as a result of similar factors experienced during the quarter, offset by an approximate 180 bps improvement as a result of a weaker U.S. dollar.

Operating margin also declined 30 bps to 21.0% in the fourth quarter 2011 on the back of a decrease in gross profit margin, partially offset by operating expense leverage. In fiscal 2011, operating profit margin decreased slightly to 18.4% as compared to 18.5% in the prior fiscal year.

Other Financial Update

The company had cash, cash equivalents and securities of $287.7 million at the end of December 31, 2011 compared with $401.7 million at the end of the prior year period. Fossil also had $15.2 million of debt at the end of fiscal 2011.

Inventory was $489.0 million at the end of fiscal year 2011, up 31.5% from $371.9 million at the end of the prior-year period.

Accounts receivable increased by 14.9% to $302.5 million at the end of the year 2011 compared with $263.2 million at the end of the prior-year period, primarily due to an increase in wholesale shipments. Days sales outstanding for the wholesale segment was 43 days in comparison with 44 days in the prior-year quarter.

Till the end of the fourth quarter, the company repurchased approximately 6.2 million shares for $450.1 million of its common stock, under the company's $750 million buyback authorization announced in August 2010.

Acquisition Update

In the year 2011, Fossil agreed to purchase the privately held Nevada-based Skagen Designs, Ltd. and some of its partners for approximately $225 million in cash and 150,000 Fossil shares. The total value paid by Fossil was approximately $236.8 million. The acquisition is expected to close by February, 2012, subject to regulatory consent.

As per the deal, Skagen will get an additional 100,000 Fossil shares, if Skagen products surpass certain revenue targets.

Skagen Designs is an international company engaged in the manufacture and marketing of contemporary Danish design accessories including watches, jewelry, sunglasses and clocks.

The acquisition is thus expected to enhance Fossil’s portfolio with Skagen’s unique designs and ample potential as a lifestyle brand. On the other hand, Skagen will also be benefited by Fossil’s ever increasing opportunities to grow and expand.

Recommendation

We are encouraged by Fossil’s in-house team of dedicated designers and product specialists who help steer the company ahead by following emerging lifestyle and fashion trends to bring innovative and unique products to its customers. However, stiff competition from Guess? Inc. (GES) and difficult macroeconomic conditions are matters of concern.

The company currently retains a Zacks #4 Rank on Fossil shares, which translates into a short-term Sell rating. On a long-term basis, we provide a Neutral recommendation on the stock.

 
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