We were recently asked by one of our clients to provide an update on our views on Prada (HKEx:1913). As many readers will be aware, we aired our views publicly on this stock back in May 2015.
By way of a recap, our short thesis was based on the following three categories of Montaka’s short-side research framework: (i) a structural decline relating to Beijing’s corruption crackdown; (ii) divergent expectations relating to the market’s unwillingness to admit the crackdown is here to stay; and (iii) misperceptions relating to Prada’s strategy to grow stores to boost revenue growth – despite persistent declines in revenue on a per-store basis.
We acknowledge that expectations for Prada’s future earnings have moderated since May. Indeed, they have been moderating since 2013. Would you believe that in 2013, consensus expectations were for Prada to earn nearly €1.8 billion (HKD 18 billion) EBITDA in 2016? Well, over the last two years, estimates for that 2016 profit level have subsided to just €950 million (HKD 8 billion). With the fall in expectations came the fall in Prada’s stock price, as illustrated below.
We continue to believe that earnings expectations are too high at Prada. Sales of luxury goods in Macau and Hong Kong have been decimated as a result of Beijing’s corruption crackdown and this has shown no sign of letting up.
In recent weeks, there have been reports of Prada pushing for lower rents in Hong Kong and Macau, though to date landlords “are not being very receptive” according to Prada Chairman Carlo Mazzi[1].
Furthermore, Prada has ramped up discounting in Hong Kong and Macau. This is a particularly disturbing development for such a high-end luxury brand like Prada. Cutting prices may erode the perceived quality of the brand; so while this may make sense to boost near-term sales, it comes at a very serious longer-term cost.
Montaka has been short the shares of Prada since its inception.
Andrew Macken is a Portfolio Manager with Montgomery Global Investment Management. To learn more about Montaka, please call +612 7202 0100.
[1] Reuters: Prada tries to renegotiate Hong Kong shop rents amid China slowdown, September 2015
