Watches for a Fossil

Fossil Group is a designer, marketer, and distributor of fashion accessories including watches, jewellery, and leather goods. Its main business is in watches which accounts for +80% of sales and is split between proprietary brands such as Fossil, Skagen and Zodiac, and licensed brands such as Michael Kors, BMW, Diesel and Armani Exchange. We prefer to find businesses to short where they are facing challenges on multiple fronts, giving us more opportunities to win; we believe Fossil is one such opportunity.

The watch industry is a highly competitive and fragmented industry with over a billion watches sold each year from thousands of different brands. To thrive in this industry there must be a point of differentiation to capture consumer interest. Unfortunately for Fossil, it typically operates in mid-range watches which are a dime a dozen.

The company also faces an ongoing structural shift from traditional watches to smartwatches. Smartwatch sales have recently exceeded traditional watch sales in the US, and Apple smartwatch sales alone have surpassed the entire venerable Swiss watch industry. While Fossil does also sell smartwatches, it faces an uphill battle competing against well recognised and capitalised brands including Apple, Fitbit (Google) and Samsung.

The company sells its goods via wholesale (department and specialty retail stores), company-owned retail stores and e-commerce. As with many bricks & mortar retail businesses, Fossil has been ill-prepared by the shift to online shopping. Its reliance on the wholesale channel (eg. JCPenny, Macys, Nordstrom, Neiman Marcus) has led to weak revenues, falling ~10% pa in the last five years.

The combination of a weak brand in a competitive category, changing consumer interests and shopping habits have been substantial challenges for Fossil. Falling revenue has been met with rapid margin compression due to high gross margins and high fixed costs despite multi-year cost-out efforts. Fossil's challenges are also broad-based with declines evident in all major product segments and most geographies.

At face value, the company can be tempting for some as it screens cheaply on historical valuation multiples. However, the challenges the company faces are unlikely to reverse anytime soon. As the quality of the business continues to deteriorate, its share price is likely to continue falling along with it.  

Apple Watches are the new fashion! 

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