The Cucinelli Philosophy
Twice a year, at the start of Pitti Uomo, the luxury-menswear industry’s biannual exhibition in Florence, designer Brunello Cucinelli hosts a lavish dinner for a few hundred of the most important menswear influencers in the world. The guest list includes fashion editors, directors, and stylists; department-store buyers; owners of prominent men’s clothing boutiques; and valued clients. Last June, the flock descended on Villa la Petraia, a grand residence in the Tuscan hills that once housed Italian nobility with names like Medici and Strozzi. As sunset approached, Cucinelli’s guests were treated to a magical view of Florence in the distance.
Wool and cashmere overcoat ($4,745), five-ply fisherman's rib two-color cashmere crew-neck sweater ($2,115).
Photo: Courtesy of Brunello Cucinelli
The evening was his way of saying grazie mille, or thank you, to those who had helped to make him one of the menswear industry’s brightest, and richest, stars. The broad-chested billionaire, 62, a student of ancient philosophers and proponent of “enlightened capitalism,” gave no speeches and mingled mainly with his employees.
But Cucinelli’s low-key performance belied his growing appeal with an affluent and discerning clientele that values his cultural and philanthropic leanings almost as much as his cashmere clothes.
Cucinelli’s apparel carries fantastically high price tags—think $1,860 for a cashmere crew-neck sweater—placing the brand in the top tier of menswear. Yet the label doesn’t scream money—or anything. The company, based in the town of Solomeo in Umbria, eschews glaring logos, natty colors and patterns, fashion shows, and celebrity-filled ads.
Cucinelli sells only ready-to-wear, and is best known for casual apparel, including lightweight sweaters, shirts, trousers, vests, and coats, all designed to be layered and worn as an ensemble.
Its color palette is similarly muted, with an emphasis on beige and gray. The company, which began as a maker of cashmere sweaters, takes great pride in its fabrics and the fact that all of its products are entirely handmade in Italy, the vast majority in Solomeo.
Leather shearling aviator jacket ($6,640).
Photo: Courtesy of Brunello Cucinelli
One can’t fully appreciate Cucinelli’s garments without handling the fabric. “It’s for that guy or executive who’s at the top of his game and knows it,” says Eric Jennings, vice president and fashion director of menswear, home, gifts, and beauty at Saks Fifth Avenue. “He’s not chasing trends. Heads might not turn when he walks in, but if you feel the cloth, you’ll know this is the guy who’s wearing the best of the best.”
Specifically, Cucinelli speaks to wealthy consumers in their 30s and 40s who have grown weary of trendier labels that need to shriek, and who instead seek a contemporary look with understated Italian flair. Toby Bateman, buying director for the high-end e-commerce site Mr Porter, considers the company a breed apart in the luxury space. “Rather than have the baggage of an older tailoring brand, which feels the need to explain every stitch and the construction of a suit, Cucinelli focuses on details that are perceived values, whether the fabric or where a garment is made,” he says.
Cucinelli’s understated luxury appeals to Alan Maleh, publisher of the luxury men’s magazine Man of the World, who recently stocked his fall wardrobe with almost $20,000 of Cucinelli’s cashmere jackets and vests, and a single-breasted deep-navy cashmere suit. The company has never advertised in his magazine, but Maleh hangs its “look book” in his closet for styling inspiration. “They fill a gaping hole between high fashion and playing it safe,” he says.
Brunello Cucinelli has been a major benefactor of Solomeo, where his company is based and most of his apparel is made.
That is readily apparent in items and looks from the fall collection, such as Cucinelli’s wool flannel trousers ($690) cut like five-pocket jeans, which makes for a flattering, streamlined fit.
We especially like the designer’s staples when layered, such as a navy cashmere sweater-jacket ($2,695) over a light-brown wool, silk, and cashmere vest with metal buttons ($1,395), which tops a cotton honeycomb-piqué white shirt with a spread collar ($565).
The ensemble is paired with white cotton gabardine five-pocket pants ($595), skimming—just barely—calfskin sneakers ($850). Like Paul Smith or Ralph Lauren, Cucinelli personifies his brand. His family trust also owns 57% of his company’s stock (ticker: BC.Italy). Brunello Cucinelli went public in 2012 at 7.75 euros ($8.84) a share. The shares, which trade in Milan, hit a high of ¤26.25 early last year, but now fetch €16.68.
Cucinelli is well read in Plato, Aristotle, Socrates, Saint Francis of Assisi, and Marcus Aurelius, to name just a few of his ancient and oft-quoted teachers. He is also passionately devoted to Solomeo, his adopted hometown and the birthplace of his wife, Federica, and has meticulously restored the medieval hamlet’s 14th century castle, together with its surrounding square and homes. He has also built a library, theater, and amphitheater in the town.
Raised in an agrarian community in Umbria, the designer was a lackadaisical university student and something of a ne’er-do-well as a young adult. He got his start in menswear in the 1970s by selling brightly colored cashmere sweaters door-to-door.
They were an instant success, and formed the basis of the company, which reported revenue of €357.4 million last year, and earned ¤63 million before interest, taxes, and noncash charges.
“I believe in profits,” Cucinelli says. “Yet I would also love it if earnings were achieved while respecting ethical and moral dignity.”
The designer recalls the humiliation his father endured in moving from farmer to factory worker, and runs his business in what he considers an enlightened way.
Its 1,300 employees, including about 800 in Solomeo, don’t punch a time clock or receive after-hours e-mails from superiors, which are forbidden. The company’s factory workers earn 20% more than the average Italian laborer, and are served a trattoria-style lunch of fresh pastas and carne, or meat. They’re welcome to enjoy an espresso afterward on elegant wicker lawn furniture, or avail themselves of Cucinelli’s library of classical and philosophical tomes.
His customers are “crazy for the dream” of clothing made by hand in an atelier in the hills of Umbria, says JP Kuehlwein, co-author of Rethinking Prestige Branding: Secrets of the Ueber-Brands.
The brand appeals to a “cultural consumer,” says Michael Silverman, executive vice president of Vida Group International, a luxury shoe manufacturer and distributor who has worn Cucinelli for more than 20 years. “I may not read Plato, but the story behind Cucinelli’s work is for a person who has some sort of cultural interest and feels inspired by the designer’s interest,” says Silverman.
Bob Mitchell, co-CEO of Mitchells Stores, a luxury-apparel company with boutiques on the East and West coasts that feature Cucinelli’s sportswear, sounds a similar theme. “Our customers appreciate Cucinelli’s luxury, but also relate to his ideology and the fact that the garments are made entirely in Italy,” he says.
Cucinelli might be the only menswear designer who is the subject of two scholarly studies. “He is a puzzle to the fashion community,” says David LaRocca, a lecturer in the department of philosophy at the State University of New York College at Cortland, who authored both works. “The fashion ethic is normally about grandiosity and narcissism. But Cucinelli says, ‘Wear these clothes but don’t be just about generosity for oneself.’ ”
Self-effacing as ever, Cucinelli takes such tributes in stride. “If I am not better, at least I am different,” he says, quoting Jean-Jacques Rousseau, with the wise grin and conviction of an enlightened philosopher.
Weekly Market Update: Turkey Tensions Strain Otherwise Quiet Market
Trading action was subdued this week as the US Thanksgiving holiday made markets sleepy. New growth and inflation data did nothing to deter the expectation of Fed rate liftoff in December. Global tensions briefly ratcheted up after Turkey shot down a Russian warplane that strayed into its airspace, further complicating the fight against ISIS in Syria. The euro continued to weaken in anticipation of the ECB monetary policy meeting next week where the central bank could expand its QE program and further cut key rates. Chinese stocks fell hard on Friday on a new round of crackdowns on brokerage houses, but stocks outside of China did not react significantly to the news. For the week, the DJIA lost 0.1%, the S&P500 was up less than 0.1%, and the Nasdaq edged up 0.4%.
Two more key pieces of the US monetary policy puzzle dropped this week: GDP and PCE inflation. There were no big surprises in the second reading of Q3 GDP. The main components met expectations, with the q/q annualized rate revised up to 2.1% from 1.5% in the advance reading, although this rate remains well below the final second quarter annualized GDP rate of +3.9%. Analysts chalked up the revision higher to an expansion of the inventory components of the data, offset by lower revisions to domestic spending components. Growth in the November Core PCE reading would have more or less clinched a December rate hike, but Wednesday's flat/lower core reading is a more ambiguous outcome. The y/y reading didn't budge from 1.3%, while the m/m figure was 0.046%, barely missing the rounding bar that would have left it flat. Inflation remains suppressed by lower energy costs, but the Fed has repeated ad nauseam that it will look past lower inflation from lower energy prices.
In other US data, the November Markit Manufacturing PMI index slipped to 52.6 from 54.1 in the prior month, putting the index at its lowest level in two years. According to Markit, domestic demand appears to be holding up well, but the sluggish global economy and strong dollar continue to act as dampeners on firms' order book growth. Echoing the slight declines in other US homebuilding data numbers, October existing home sales declined to 5.36M units from 5.55M units in September. The October durables were better than expected and the September figures were revised much higher.
Early on Tuesday, Turkey shot down a Russian SU-24 fighter-bomber on the Turkey/Syria border. The Turkish side claimed the aircraft entered Turkish airspace over the town of Yaylidag and said the plane was warned 10 times in the space of five minutes before it was taken down. Russian President Putin reacted with very harsh words, calling the move a "stab in the back" by "terrorist accomplices," with "serious consequences" for the Russia-Turkey relationship. The incident momentarily sent European equities lower and helped lift crude prices to two-week highs. Russia has followed up by moving a cruiser with anti-aircraft capabilities into the theater and announcing measures to discourage Russian tourism to Turkey. The Kremlin has also signaled it may take additional economic measures against Turkey.
The minutes from the late-Oct Bank of Japan policy meeting indicated the BoJ felt comfortable holding off on additional QE. All members agreed wage growth is somewhat slow, but most also noted the underlying inflation trend is improving. Members remain on edge about risks of slower growth due to FY17 sales tales tax hike. While the BoJ is not interested in more stimulus, the government is not holding back. There were press reports that the Abe cabinet has prepared a new draft plan to deal with low inflation. Tokyo intends to raise minimum wage by 3% next fiscal year and support capex by rewarding companies that invest in plants and equipment that improve energy use.
On Friday, the Shanghai Composite plummeted 5.5%, in its biggest decline since the August stock market tumult. Traders cited the report that Chinese officials are expanding their crackdown on brokerages including CITIC and Guosen Securities. US markets were unfazed by the drop in the Shanghai index, ending holiday shortened session around flat. Brazil shares took a hit this week when police investigating the ever growing Petrobras kickback scandal announced they had arrested the head of the ruling party in the Senate, Senator Amaral, as well as Andre Esteves, the CEO and controlling shareholder of BTG Pactual SA, Latin America's biggest investment bank.
Activist investors are targeting AIG and Alcoa. Back in late October, Carl Icahn pushed AIG to break itself up into three companies. This week, he said he would commence a consent solicitation for shareholders and may seek a board seat. Icahn disclosed that he has been talking with AIG CEO Peter Hancock, although he also indicated AIG's CEO was not taking his advice. AIG responded simply by noting the steps it has taken to streamline the businesses. At Alcoa, Elliott Management disclosed a 6.4% stake and said it was talking with management about steps to "maximize shareholder value," which might include selling its hydropower business, expanding margins, and follow through on splitting up the business.
After a flurry of press talk last week, Pfizer and Allergan have agreed to merge in a tax-inversion deal worth up to about $155 billion that will result in the world's biggest drug maker by sales. Allergan shareholders will be receiving $363.63 worth of Pfizer stock, or 11.3 shares per share. The new firm will retain the Pfizer name and Allergan's domicile in Ireland. Pfizer expects the combined firm to have an adjusted tax rate of 17-18%, lower than its current 25% rate.
Insight: How the Lost Decade for Oil Was the Golden Decade for the Majors
After the 1986 collapse, oil prices stayed stable for a decade. Still, European Majors outperformed strongly during those years, with low volatility. In this note, we investigate whether this can happen again. The Majors face many near-term headwinds, but this scenario is worth exploring.
1987-97: A lost decade for oil but a golden decade for the Majors. Oil prices collapsed from ~$30 to ~$10/bbl in 1985/86, but by May 1987 they had recovered to ~$18/bbl. They would stay close to that level over the next 10 years. Still, the European Majors performed strongly during that decade, returning ~17% per year, well ahead of the market at 12.5%.
Key to this strong performance was a high dividend yield at the start of this period. By mid-1987, the Majors were yielding 1.8x the wider market's yield, implying low investor confidence in the sustainability of these dividends. As that confidence was restored, yields contracted. The high starting yield and its contraction over time drove this strong 10-year outperformance.
Full dividend cover remained elusive for a decade; yet no Major cut the dividend. Surprisingly, the Majors covered their dividends with organic FCF in only three out of the 11 years from 1987-97. On average, organic FCF funded just 79% of dividends, with the balance coming from disposals. Clearly, full cover is not required for the Majors to perform strongly over a long period.
Despite flat oil prices, cash flow grew supported by constant cost improvements. After initial sharp cost savings in response to the 1986 downturn, another wave of more structural cost savings followed. Throughout 1987-97, upstream operating cost fell on average 5-6% per year in real terms, for a total real-term decline of >50% between 1985 and 1997. Combined with 3% production growth p.a., this allowed cash flow to grow despite flat oil prices, supporting the Majors' dividends.
Could this happen again? Some key factor are in place again. Dividend yields are similarly elevated, there is substantial scope for cost cutting once again, a healthy project pipeline is likely to drive modest growth, and room to fund 20% of dividends through disposals appears to exist as well.
Although there are also reasons to be sceptical too. The downstream was a tailwind which may not be repeated, oil prices do not yet show the modest recovery they did in late 1986, and 'energy transition' means the future may not look like the past.
Outlook 2016 – stay 'Attractive'. We are agnostic about the next decade but see an attractive outlook for 2016. Rising prices and falling costs are likely to drive FCF recovery and yield contraction. Top picks Total and Statoil.
Merger Market
* Premium would bring transaction below 60-80% threshold
* Substantial business test highlighted as difficult area
* Further measures on earnings stripping anticipated
Allergan (NYSE: AGN) and Pfizer (NYSE: PFE) could structure a deal that would comply with the US Treasury’s new anti-inversion notice, according to US-based tax specialists.
On 19 November, the Treasury Department issued new proposed rules to deter US companies from moving their headquarters to lower-tax jurisdictions.
The notice, along with comments from Treasury Secretary Jacob Lew, come as US-based Pfizer and Ireland-based Allergan hammer out the final details of their proposed merger. A number of other inversion deals are pending or expected.
The full rules for the restrictions had been eagerly awaited by dealmakers anxious to assess the impact on deals that are inflight.
Both an EU-based tax attorney and a US-based banker thought an obstacle to a deal between Pfizer and Allergan could be the Treasury’s “substantial business test” requiring that 25% of the post-merger business must be based in the home country of the foreign parent company.
This test was previously applied to determine that an inverting company would be considered a US company if 25% of employees, their compensation, the assets or the income is derived from the US. The latest rules require the merged entity to be a tax resident of the country of the foreign parent, essentially flipping these criteria.
“They couldn’t do this,” the EU-based tax inversion lawyer said, regarding Pfizer’s ability to overcome that test.
The newly issued rules note that Section 7874 of the Internal Revenue Code grants the Secretary “authority to prescribe the regulations as may be appropriate to determine whether a corporation is a surrogate foreign” entity.
But advisors pointed out the over-arching ownership requirement – that places restrictions on US inverting companies owning 60-80% of the merged entity – should mean that the Pfizer/Allergan transaction can be crafted in such a way as to escape the new tightened rules.
A third US-based tax attorney pointed out that Pfizer could structure a deal with a 30% premium to Allergan’s trading value, which would result in Pfizer owning 59% of the combined entity and thereby circumvent the Treasury’s substantial business test.
Alex Mostovoi, director of tax at Focus Financial Partners, thought there could be even more leeway to avoid the rules in terms of their impact on the Pfizer-Allergan deal.
As part of the combination with Allergan, Pfizer will acquire some valuable drugs, but could also repackage and sell some unwanted assets, Mostovoi said, a move that would fit with Pfizer's publicly stated consideration of a plan to split the company. “When you take this aspect of the transaction into account, it will provide a lot of flexibility in dealing with the new inversion requirements, including the 25% test.”
A healthcare banker agreed the new rules will not prevent a deal between Pfizer and Allergan.
“I think the deal goes through,” the banker said. The EU-based lawyer and the banker pointed out, however, that politicians do not want to see Pfizer’s tax revenues leave the country. The lawyer added that if Pfizer does manage to invert, competitors could follow suit.
Chilling inversions
Peter Schuur, a tax attorney at Debevoice & Plimpton, said the notice is not transformative. More than anything, it is a tightening up of Treasury’s previous notice from September 2014. “People are a little surprised the government didn’t go further,” he said.
The highlight of the 19 November notice was that a firm cannot buy a foreign company in an inversion and relocate that company to a third country, according to Bill Dantzler, a tax lawyer at White & Case.
Although the notice was aimed at chilling inversion activity, the new rulemaking announcement is “a stretch on [Treasury’s] authority,” Dantzler said.
In an interview, a Department of Treasury official responded that the department had closely reviewed and considered the new notice. “We think that our authority is clear to take these actions,” the official said.
The department is accepting comments on the 19 November notice, and there is currently no projected end-date to the comment period. “We don’t have a timeline on when the proposed regulations will come out, but it’s something we’re working on,” the official said.
Notably, Treasury still has not issued regulations to implement its September 2014 notice on inversions. Those regulations are expected “in the coming months,” the official added.
The third US-based tax attorney pointed out that based on the new rules for companies of a similar size, tax inversion deal-making is likely to continue. This attorney thought that new guidance on earnings stripping, the process where a company moves earnings from a high tax jurisdiction to a lower one often through subsidiary loans, would be more meaningful.
As Secretary Lew noted in his comments, “This is an important step, but it is not the end of our work. We continue to explore additional ways to address inversions -- including potential guidance on earnings stripping -- and we intend to take further action in the coming months.”
Treasury media affairs did not comment.
Weekly Market Update: Markets Undeterred by Terrorist Attacks
The week began with investors largely looking right past headlines related to the disturbing Paris terror attacks. European indices made up all of their losses from last week and US equities returned to gains after last week's retreat. A second straight quarter of negative GDP put Japan back into technical recession, marking another setback for PM Abe's grand plans for reviving his country's economy. A chorus of commentary from US Fed officials book-ended the Oct FOMC minutes midweek, and largely cemented expectations US rates could very well begin going up next month, but that they will only be rising at a very tempered pace. In Europe, ECB President Draghi amped up expectations for more easing, while the PBoC cut short-term borrowing rates, to some extent fulfilling expectations that Beijing would do more to help the flagging Chinese economy. The US Dollar remained buoyed by the divergent central bank outlooks, resulting in a fresh 7-month low in the Euro. WTI crude blipped below $40 briefly but held that level into week's end, while copper saw another fresh 6-year low. For the week the DJIA gained 3.4%, the S&P rose 3.3%, and the Nasdaq rebounded 3.6%.
The minutes from the last FOMC meeting sent fresh signals that the Fed is more and more confident that it will raise interest rates at the December meeting as long as job growth and inflation trends don't take a turn for the worse. Most officials at the October meeting anticipated that December "could well be" the time for rate liftoff. "Most participants anticipated that, based on their assessment of the current economic situation and their outlook for economic activity, the labor market, and inflation, these conditions could well be met by the time of the next meeting," read the minutes. The US Treasury curve flattened following the minutes and stocks surged as markets appeared more comfortable that they can handle a gradual rise in rates.
Japan preliminary third quarter GDP was negative for a second consecutive quarter (-0.2% q/q), marking Japan's first technical recession since mid-2014 (the last one followed the increase in the consumption tax as part of Abe's Three Arrows reform). Corporate capex spending did the most damage, falling -1.3%, while the soft JPY boosted exports in the quarter to +2.6% from -4.3% prior and consumption was nearly flat at +0.5%. The negative print further boosted expectations for more BoJ easing or a supplemental fiscal budget to address the slump, although the BoJ maintained its stance at its policy meeting on Wednesday. The BoJ maintained its annual pace of monetary base expansion at ¥80T and also kept its overall economic assessment unchanged, while it slightly tinkered with its inflation outlook. USD/JPY marked an eight-week high after the GDP and BoJ developments on Wednesday, touching 123.65 before tightening up into week's end.
In a speech on Friday, ECB President Draghi made his case for more easing in December (the ECB Council meets on December 3rd). While the speech largely reiterated his past themes, Draghi added subtle changes that suggested even headline inflation moving towards target will not be enough. He said the ECB needs to be confident that inflation will not only converge to, but also stabilize around levels close to 2% over the medium term, adding inflation stabilization for the first time to ECB forward guidance. Analysts said his remarks suggest the ECB may sustain monetary stimulus even if oil prices push headline inflation above the 2% target. They also highlighted that German inflation hawk Weidmann took a different tack, called lower energy prices more of a stimulus than a deflation signal. The euro kept weakening and closed the week below 1.0650 for the first time since April.
A pair of US housing industry indicators stepped away from their recent highs. The NAHB index of homebuilder confidence declined slightly in November, to 62 from a revised reading of 65 in October. The October reading represented the highest level since late 2005, for a cycle high. Analysts were unsurprised, even as the reading missed expectations, calling the dip back to September levels a heathy correction that was in line with sales and mortgage applications readings. The annualized pace of housing starts fell 11% to a seven-month low in October, although it's worth remembering that October marked the seventh straight month of starts above 1 million units, the longest stretch since 2007.
Two more major US retailers got a thrashing this week despite reporting merely mediocre quarterly results. Target met expectations on the top and bottom lines, reported a good-not-great 1.9% gain in comps and slightly adjusted its FY guidance. Best Buy beat EPS expectations and boosted margins y/y. Investors frowned on initial FY16 guidance that called for nearly flat revenue and a modest decline in the operating income. BBY fell 8% at its worst after reporting, while TGT was off 6% at its worst. Both names recovered into week's end. Home Depot and Lowes saw strong gains on the week thanks to very good comp sales growth and more limited earnings and revenue outperformance.
Big name IPOs made a comeback this week with the initial stock offerings of Square and Match Group. Early in the week, reports said that the companies were being advised to cut their IPO prices to ensure early investors would be happy and indeed Match priced at the lower end of its $12-14/share initial pricing range while Square priced at $9/share, well below its $11-13/share initial range. With their modest pricing, both IPOs saw a big pop on their first day of trading, and each managed to trade above their respecting initial pricing range.
On Thursday, UnitedHeath Group cut its FY15 guidance and offered a slightly soft initial outlook for FY16. The CEO said the company had suspended marketing for Affordable Care Act exchanges and could exit the Obamacare individual health plan business altogether because it is losing money on the business. UNH's shares fell 6% in the session and the comments dragged down most of the sector. Analysts suggested bigger losses may be in the pipeline for other healthcare insurance names more exposed to flawed exchanges.
In M&A news, Starwood Hotels agreed to be acquired by Marriot for $12.2 billion, mostly in stock. Together, the companies will operate or franchise 5,500 hotels with a total of 1.1 million rooms, in around 100 countries. The already shaky $6.3 billion Staples/Office Depot merger was looking worse after the New York Post reported that the FTC might finally block the deal due to antitrust concerns. Shares of ODP were down 12% on the week. Railroad Norfolk Southern received an unsolicited offer from Canadian Pacific valued at $46.72/share in cash and 0.348 fixed share exchange ratio. Norfolk's board described the deal as low-premium and highly conditional but did not reject it out of hand, and CP's leadership indicated they may be willing to increase their offer. Recall that CP tried and failed to buy CSX last year.
The US Treasury implemented stiffer anti-tax inversion merger rules in an attempt to make overseas deals designed to avoid US taxes more difficult. The new rules restrict US firms from inflating the size of the new foreign corporate parent, and thereby avoid the current rule that requires the former owners of the US firm to own less than 80% of the newly combined entity. The move threw a monkey wrench in the ongoing merger talks between Pfizer and Allergan, but did not derail them. At the beginning of November, talks between the two companies were active, while this week reports suggested the deal could be priced as high as $150 billion, for the biggest drug industry deal in history. There were fears the deal might die under the knife of the new Treasury rules, although CNBC's Faber pointed out that the new rules apply to transactions where continuing ownership is in fact 60-80%, and under current talk Pfizer would own 59% of the combined entity with Allergan.