Why The Polo Brand Is Critical To Ralph Lauren’s Success

The shares of luxury lifestyle company Ralph Lauren (NYSE:RL) were down after it announced earnings for the fourth quarter of fiscal 2014. In the earnings announcement, the company management warned that operating margins were expected to fall further. Additionally, the company announced that executive vice chairman Roger Farah would be retiring at the end of the month and leaving the company’s board in August. This leaves some doubt about the future direction of the company as it was believed that Farah would be the one to take the company forward after founder, Ralph Lauren in October, stepped away from the driver’s seat. However, more than the clouds hanging over the company’s future management, investors are worried about the falling popularity of the flagship Ralph Lauren brand among today’s affluent consumers. ^[1]

In the fourth quarter of fiscal 2014, Ralph Lauren’s retail revenues grew by only 4.8%, less than half the 11.1% growth experienced by the wholesale segment. More alarmingly, the operating margin for the retail segment stood at only 15.1%, compared to the 27% margin of the wholesale division. This is despite capital expenditures attributed to the retail segment having risen by nearly 60% compared to a 33% increase in the wholesale segment. Moreover, the capital expenditure for the retail segment was already 4x that of the wholesale segment. One area where some of these expenditures are being directed is the expansion of the Polo brand, and it is this expenditure that sheds some light on the path the company might take in order to win back its popularity among the affluent youths. ^[2]

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Fading Popularity

Ralph Lauren’s brand appeal was built on selling dreams of escape and transformation to a baby boomer demographic that was rapidly becoming richer and looking for new ways to spend the cash it was earning. However, that demographic, which formed the backbone of its prospective customer segment, is now aging. Consequently, the amount they spend on luxury clothes is also falling. The appeal of Ralph Lauren as a luxury brand is now limited only to those who are newly rich or aspire to be rich and whose idea of luxury is the same as that of the baby boomer demographic. However, the idea of luxury for those already rich has shifted. Instead of Ralph Lauren, the merchants of choice for their dreams are Kate Spade and Tory Burch. The plans to accelerate the development of the Polo brand might be an admission that Ralph Lauren’s management is becoming wise to these changing trends.

In management’s own words, the company’s Lauren brand, which forms the backbone of its department store business, serves a customer who is essentially in the 35+ age group. Its other popular brand, Denim & Supply, is defined under the millennial umbrella. These brands have helped Ralph Lauren solidify its bond with the older consumer. However, the new Polo women’s business will be targeted to younger customers, with its main competitors being Burberry and Tory Burch. The Polo women’s business will replace the Blue Denim line so the sales made from the segment will not be entirely incremental. However, since the business will serve a wider range of needs than the Denim line, it will bring in higher revenues over time. ^[3]

The Polo women’s business is also consistent with Ralph Lauren’s stated aim of growing its women’s business to become an equal contributor to the overall revenues.  Currently, the split between revenues from the men’s and women’s mix is about 60/40. This is the reverse of the usual trend in the marketplace, and the opening of the women’s Polo line will allow the company to achieve greater share in the women’s luxury apparel market.

Global Opportunities for Polo

The decision to roll out Polo stores is not merely limited to growing the women’s business but also coincides with several high-potential product initiatives:
1) The debut of women’s Polo
2) The introduction of men’s polo suits, suit separates, sport jackets and trousers, as a result of buying the men’s clothing license business.
3) The introduction of a more refined, dressier aspect to the Polo men’s line.

The company has 13 Polo stores operational today, with approximately 15 to 20 planned for fiscal 2015. Over the long-term, the company  has identified an opportunity for between 100 and 200 Polo stores worldwide, and with significant concentration in international markets. At least 20 to 30% of the Polo stores are expected to be located in Europe.

As with other product launches and license take-backs, these will require incremental resources for design, merchandising, production and sales. Additionally, the company will have to support the Polo expansion strategy with increased global advertising and marketing to build awareness for the new stores and merchandise categories. These investments in Polo are consistent with the company’s strategy to divert resources to high-growth, high-margin opportunities. While each of these areas of investment could generate high returns in the long-term, the near-term impact on operating expenses means that the fiscal 2015 operating margin will likely be below 2014’s level. ^[1]

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1. Ralph Lauren’s Q4 2014 Earnings Call Transcript, Seeking Alpha, May 2014 [↩] [↩]
2. Ralph Lauren Investor Relations [↩]
3. Ralph Lauren’s Q3 2014 Earnings Call Transcript, Seeking Alpha, February 2014 [↩]