French fashion designer Thierry Hermes founded Hermes International SA (XPAR:RMS, Financial) in 1837, and the brand quickly gained popularity for its carefully crafted leather saddles. The company is famous for its introduction (in 1922) of the first-ever leather bags for people, rather than for horses.
The “modern” Hermes designs, manufactures and markets ultra-luxury goods, with specialization in leather goods and saddlery (50% of first-half 2019 sales), ready-to-wear and accessories (23% of sales), silk and textiles (8%) and perfumes (5%). Although it is a French business, the company generates a significant portion of its revenue from the Asia Pacific region (40% of first-half sales), followed by the Americas (17% of sales), Europe excluding France (17%), Japan (12%) and France (12%).
We believe that the century-old brand, along with its ultra-luxury positioning, digs a wide and deep moat for Hermes, which not only fends off competition but also immunizes the business from the risk of recession. According to both Interbrand and Forbes, Hermes is among the top 50 global brands and one of the only three luxury brands on the list (the other two being Louis Vuitton (XPAR:MC, Financial) and Gucci (XPAR:KER, Financial)). Statista estimates Hermes is the third most valuable luxury brand in the world (only after Louis Vuitton and Chanel).
When it comes to ultra-high-end lifestyles, the brand’s share among target consumers is difficult to replicate or change even over the next couple of decades.
As shown below, the company has earned a relatively stable return on invested capital over the past several decades, compared with LVMH, Tapestry (TPR, Financial), Christian Dior (XPAR:CDI, Financial) and Burberry (LSE:BRBY, Financial).
For such a long history, the brand has been synonymous with luxury, thereby earning a spot in many closets of the ultra-high-net-worth class. We know that the wealthy are typically less impacted by economic cycles, which makes Hermes recession-proof. Both the company's revenue and operating income were able to grow during the 2008-09 financial crisis.
Taking advantage of a strong brand, Hermes can continue its expansion into adjacent businesses, including watches and accessories, that are growing at double-digit rates. Geographic expansion can be another significant growth driver. China should be the most critical market for Hermes. Chinese spending already accounted for one-third of the total global luxury market in 2018, according to Bain & Company. In recent years, the Mainland market (excluding Chinese travelers) has been posting a 20% compounded annual growth rate. Hermes has a presence not only megacities like Shanghai and Beijing, but also many tier-two cities in China. We think such broad geographic coverage positions the company well to capture future growth.
One minor risk is in regard to the ownership structure of Hermes International. The company is controlled by H51 SAS, a holding company formed by descendants of Thierry Hermes, to prevent any takeovers. While appreciating the considerable insider interest, we acknowledge the inherent risk (e.g., no compelling voice in the company’s management). So far, the management (one of the co-CEOs, Axel Dumas, is a sixth-generation member of the Hermes family) looks “friendly” to minority shareholders, increasing the dividend payout every year with two exceptional dividends over the past several years.
Disclosure: The mention of any stock in this article does not constitute an investment recommendation; investors should always conduct careful analysis themselves or consult with their investment advisors before acting in the stock market. We own shares of Hermes International.
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