H&M (HNNMY)

By: Chaitanya Mittal

Company Overview

• Swedish company trading on Stockholm Stock Exchange

• 2nd largest global clothing retailer in the world, behind Inditex

• Fast fashion “with affordability” at/ avg price of $21.40• Well-established brand name all across E. and W.

Europe• Rapidly expanding across developing markets in Asia

Geographic BreakdownEurope

• Steady growth despite severe recession

• 2,548 stores, w/majority in W. Europe

• 177 new stores planned for 2015• $13.7B of business last year• $5.4M sales/store beating other

European retailers

Franchise Stores• Growing aspect of H&M’s

business• 150 current stores,

w/~20 being added every year

The Americas• Vast, largely untapped growth

potential• Successful launch of online market

caused margins to explode in 2014• 435 Stores, w/65 new stores planned• $5.5M sales/store almost double that

of anemic American retailers

Asia• Biggest growth market,

almost entirely untapped• 398 stores, w/whopping 120

new stores planned for next year

• $5.1M in sales/stores has been falling due to competition and smaller stores74%

13%

11%

2%

Sales

Europe Americas AsiaFranchise

Role in the American Industry

• Different business model than other popular apparel brands

• Customer base is low-middle income young people who will shop for the latest trends several times a year (compared to Zara which targets more wallet-heavy consumers)

• High inventory turnover rates at ~12 compared to industry avg. of 4 - 5

• As Gap, JCPenney, Aeropostale, and Abercrombie close stores across the US, foreign retailers like H&M replacing them in prime mall locations

The Real Competition• Inditex – Largest sized in

industry w/ $20B of annual sales. Parent brand to Zara. 66% sales in Europe, 20% in Asia, 14% in US. 15% overall store growth in 2014.

• Fast Retailing – Rapidly growing in the Western World. 75% sales in Asia, w/minimal penetration in Europe and the US as of now. 12% store growth in 2014.

• Forever 21 –Privately held retailer w/$3.7B in sales in 2013.

Performance

• Last year was huge for H&M w/13% increase in net margins along w/sales growth, esp. in recession-hit Europe

• $730K margins/store, as compared to only $230K for Fast Retailing and $590K for Inditex

2014 Sales Sales Growth

Store #

Store Growth

Sales/Store

P/E

H&M $18.2B 17.8% 3511 12.1% $5.2M 26.2

Inditex $20.1B 8.3% 6340 15.1% $2.9M 37

Fast Retailin

g

$11.6B 20% 2753 12.4% $4.2M 44.3

Concerns Deflating P/E1) Poor macroeconomic conditions in Europe

• A large portion of H&M’s transactions are made in euros• Downturn took harder toll on H&M than Zara

2) Hyper-competitive market in Asia• All Western retailers are headed over to woo Chinese customers• Fast Retailing already has massive presence

3) Lateness to the online marketplace in growth countries• Zara and Uniqlo got there first – H&M just launched

4) One-dimensionality of customer type• Affordability of brand is biggest competitive advantage but also a constraint as customers looking for more class may go somewhere else

5) Rising manufacturing costs• Wages in Bangladesh and China are rising

Variant Perception

1) European recession won’t last forever• W. European economies have been recovering over past year• Sales/store earnings for Europe rose for first time in 5 years

2) New market penetration holds significant upside• H&M has just started gaining traction with American consumers• Asian customers have responded well to the brand despite options

3) Management is dedicated to growth and versatility

• Opened online marketplaces in China and US in 2013• Launched Conscious Collection which is both more up-class

and also manufactured with environmental awareness

Using the PEG Multiple

• H&M, Fast Retailing, and Inditex all growth stocks

• Case to be made that H&M is also a value stock

• Market obviously overexcited about Uniqlo and Zara

• Fair PEG is considered close to 1, though stocks in the apparel market tend to trade at higher PEGs

• H&M is undervalued by this metric. P/E should be ~28

Company P/E Expected EPS Growth

PEG

H&M 26.2 28% 0.9Inditex 37 12% 3.1Fast Retailing 44.3 26% 1.7

Investment Thesis• Shares of H&M are trading at a moderate discount if financials and growth strategies of competitors are accounted for:

•H&M should trade at a multiple closer to 28, bringing it more in line with competitors, due to 3 main reasons:

1) Increasing diversity in price point, medium of sales, and fashion lines 2) Strong growth in untapped markets in Asia 3) Decay of traditionally popular brands in the US

Company H&M Inditex Fast Retailing

PEG 0.9 3.1 1.7

Valuation (2 Yrs Forward)

• Current Share Price: $7.95 (P/E 26.2, EPS $0.30)• 2 Year Target: 0.3(0.38)(24) + 0.5(0.415)(28) +

0.2(0.43)(28) = $10.80 (36% Upgrade)

Downside Base UpsideEurope Sales/Store: $5.17

Sales: $15,215Margins: $2,282

Sales/Store: $5.61Sales: $16,512

Margins: $2,476

Sales/Store: $5.72Sales: $16,834

Margins: $2,525

North (and S) America

Sales/Store: $5.53Sales: $3,119 Margins: $471

Sales/Store: $5.75Sales: $3,245Margins: $487

Sales/Store: $6.10Sales: $3,440Margins: $516

Asia and Oceania Sales/Store: $4.03Sales: $2,574Margins: $386

Sales/Store: $4.21Sales: $2,695Margin: $404

Sales/Store: $4.40Sales: $2,816Margins: $422

Franchise Stores Sales/Store: $2.72Sales: $462

Margins: $69.30

Sales/Store: $2.83Sales: $480

Margins: $72

Sales/Store: $2.89Sales: $490

Margins: $73.50

Total EPS; Prob; P/E

$0.38; (30%); P/E: 24

$0.415; (50%); P/E: 28

$0.43; (20%); P/E: 28

Appendix (Unit Economics pg1)

Appendix (Unit Economics pg2)

Appendix (Income Model pg1)

Appendix (Income Model pg2)