* Downside risk becoming more limited
* We are upgrading Tod's Group to Neutral (from Underperform).
The sentiment on the stock among both sell-side and buy-side analysts remains overly negative. We now struggle to see more downside risk to the shares after being the second worst performer after Prada in our luxury universe in
the past two years.
* Tod's Group is potentially reaching trough earnings.
Consensus EPS has come down by 50% in the past two years, but we have not seen any meaningful cut to forecasts for nearly a year. We now feel confident about current market expectations for 2016, factoring in a modest rebound in
margin from the historically low level of 2015. Sales growth should technically improve as the group starts lapping two years of easy comps in 4Q15. We forecast +2% LFL in 2016 after -5% in 2015e and -7% in 2014.
* A long-awaited revamp of the handbags offering.
Tod's has performed well below peers in handbags in the past three years. We attribute this to the lack of
real newness until the recent launches of the S/S'15 and A/W'15 seasons. This includes the Wave bag launched in 4Q which seems to be faring particularly well and was partly responsible for the LFL improvement at the beginning of 4Q, according to management. We model positive growth in handbags for Tod's in 2016, which should be accretive to gross margins.
* Valuation remains too rich to be more constructive.
Tod's Group is trading at 22x 2016e P/E, representing a 25% premium to our luxury universe. Earnings visibility may have improved, but we deem it too early to see earnings upgrades. In addition, we do not forecast earnings growth to
be any better than our sector average and ROIC has yet to recover.
* We are retaining our Outperform rating on Salvatore Ferragamo.
It is a high-beta stock in our universe and has therefore been heavily penalized by disappointing sector trends in 3Q. Earnings visibility may not be as good as before, but the relative earnings momentum is still positive, with consensus EPS down 5% in the past 12 months against 10% for our universe overall. We believe the recent share price correction has been overdone with the stock de-rating to 19x 2016e P/E on our numbers, well below its historical average and almost on par with its peer group average.