This morning, when Tapestry (TPR) released their first quarter earnings, the stock jumped around twenty percent. That move, however, wasn’t based on their results. Earnings were okay, coming in at $0.42 per share versus the Zack’s consensus estimate of $0.41. Revenue for the quarter was $1.33 billion, which also basically matched expectations.
What caused the stock to soar was the announcement of a buyback program that accompanied the earnings report, but investors should be careful of overreacting to that good news.
Buybacks usually give a stock a boost for obvious reasons, but history suggests that their long-term effects are mixed at best.
Shareholders had been clamoring for this buyback for a while, and when it came, it came with a vengeance. The fashion accessory company, best known for its Coach and Kate Spade brands, said they would be buying back $1 billion of their stock, which represents around eleven percent of the outstanding shares.
That has a twofold effect.
First, it reduces the number of shares out there, increasing the percentage ownership of what is left and therefore their value. Second, it ensures that there will be a big buyer around for some time to support the stock price.
Still, the twenty percent or so move up in TPR early this morning looks massively overdone.
I have said it here before and no doubt will again, but “not as bad as it could have been” is rarely a good reason to buy a stock, and in this case that looks to be the reason for TPR gaining nearly twice as much as logic would suggest it should. If you look beyond the buyback to the underlying numbers, that becomes clear.
The company bought the Kate Spade brand in 2017, and sales at established stores there beat expectations, falling by “only” three percent compared to an expected decline of around four percent. Coach, which accounts for over seventy percent of the company’s business, did a bit better in terms of comps, which rose around one percent, but overall sales there were still down.
It is not that there was no good news in these earnings. Margins improved, which addresses one worry of investors, and as I said, the buyback will have material effects. There were also signs that the decline in Kate Spade is slowing, but that shouldn’t hide the fact that it is still happening. Analysts are expecting that positive trend to continue and for Tapestry to return to positive growth, but even if that happens, a PEG ratio of over 2 indicates that TPR was hardly a bargain before this morning.
“Better than expected” will almost always cause a stock to jump, even when, as here, the net result is still negative. Profit taking by those holding the shares short inevitably follows that kind of news, but the effects of that rarely last long. Eventually, growth potential becomes the driver of the stock and on that basis, a sharp pullback can be anticipated, and this looks more like an opportunity to sell than to buy.