Canada Goose: Needs To Deliver Consistent Free Cash Flows (NYSE:GOOS)

Overview

Canada Goose Holdings Inc. (NYSE:GOOS) designs, manufactures, distributes, and retails premium outerwear for men, women, and children. The company was established in 1957 and is head quartered in Toronto, Canada.

GOOS organizes itself into three operating segments: Direct-to-Consumer, Wholesale, and Other. The company makes money by selling a wide range of apparel and accessories for fall, winter, and spring through its retail stores located throughout North America, Europe, and Asia. In addition, the company sells its products through wholesale partners and distributors and through its website.

Performance

GOOS has established a nice track record of revenue growth since the company went public in 2017 with only one year of revenue declines during the period. Last year, the company reported over $1 billion (CAD) in revenue which represents an exceptional 21.5% growth year over year.

In terms of free cash flows, GOOS has been much more inconsistent. Last year, the company reported $114 million in free cash flows representing a 56% decline year over year. Although, the company’s free cash flows have been trending up, it has reported negative free cash flows in two of the past eight years.

GOOS is building a strong track record of profitability. Over the last six years the company has averaged a return on equity of 29%, with only one year lower than 15%. It’s important for a business to report high ROE’s because it shows that the company is efficient at using its resources to generate profits and it’s also an indication that the company is well-managed and has a competitive advantage in its industry.

Turning to the company’s balance sheet, GOOS has done an excellent job of increasing shareholder’s equity, which currently stands at $484 million. The company has grown its shareholder’s equity at a steady pace, recording an impressive overall growth of 240% since 2015.

Unfortunately, the company’s debt-to-equity ratio is higher than many investors will like at 1.58. When a company has a high D/E ratio it can be an indication that a company has more debt than equity, which can be problematic as it makes the company vulnerable to economic downturns and changes in interest rates. It also makes it difficult for a company to access additional funding or credit in the future.

Overall, GOOS has demonstrated a history of mixed financial performance which has contributed to the company’s disappointing returns for shareholders. Over the past five years the company has lagged the total returns of the S&P 500 by more than 100%, as the GOOS is down 41% over the period. This poor performance is making many GOOS shareholders question if the company can turn things around.

Outlook

Over the years, GOOS has built an excellent reputation within the luxury apparel industry as its jackets are renowned for their warmth, protection, and style. Its products are iconic, and its style is timeless, making the brand stronger than ever.

The company will look to leverage the strong brand that it’s built to further grow revenues and increase its profitability. Management has also indicated that they will explore opportunities to expand into new categories and geographies, while carefully investing where high returns are expected. However, their main priority is safeguarding its brand and delivering top-quality products.

GOOS has lofty goals for the future. By 2028, management expects to earn $3 billion in revenue per year which means the company would have to produce a CAGR of 20% per year to achieve this. The expected growth will result from the acceleration of consumer-oriented growth strategies, expansion of the direct-to-consumer network, and development of new and existing product categories.

In addition, GOOS is planning to achieve an adjusted EBIT margin of 30% by 2028. The company is making investments to increase efficiency and reduce COGS, while also improving its sourcing capabilities to achieve $150 million in savings and avoided costs by the end of 2028. Management plans to reinvest these savings to expand into new categories and business initiatives.

Valuation

To estimate GOOS’s intrinsic value, a comparative and discounted cash flow (“DCF”) analyses will be used. The comparative analysis will consist of taking the highest, lowest, and median price-to-earnings ratios the market has paid for GOOS over the past five years and multiplying them by GOOS’s consensus 2024 EPS estimate of $1.09 per share. As a bonus, the current sector median valuation of 14.93 will also be applied to GOOS’s consensus 2024 EPS estimate for an additional scenario.

Scenario	P/E	Next Year Earnings Estimate	Intrinsic Value Estimate	% Change
Bear Case	13.69	$1.09	$14.92	-24.79%
5Y Median P/E	49.51	$1.09	$53.97	172.01%
Bull Case	129.99	$1.09	$141.69	614.16%
Sector Median Valuation	14.93	$1.09	$16.27	-17.98%

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On a comparative analysis, GOOS has a wide range of scenarios that can play out. Investors could realize a substantial 614.16% return if the market were bullish and applied the 129.99 multiple, seen in 2021, to next year’s average analyst earnings estimate, should those estimates materialize. However, this scenario is highly unlikely as 129.99 multiple is extremely high.

On the downside, investors could realize a significant 24.79% loss if the market were to value GOOS at the 5-year low multiple seen in March of 2020. Another bad scenario for investors is if the market values the company at the sector median multiple which would represent a 17.98% loss.

The most likely scenario is the base case, which is based on the 5-year median P/E ratio and is the most important. This base case scenario would result in an 172.01% return for investors. Altogether, this comparative analysis indicates that GOOS is undervalued and has much more upside than downside at its current share price.

Turning to the discounted cash flow analysis, the starting point will be the average of the last five years of free cash flows, which is $125 million. Then a 15% growth rate will be applied to the free cash flows for the next 10 years.

Analysts do predict a higher EPS growth rate of 20% over the next five years, however for this exercise we are projecting free cash flows over a longer period and the 15% growth rate is usually my ceiling when attempting to predict cash flows ten years into the future. This DCF is meant to be an estimation not an approximation.

Following the 10th year, a 2.5% growth rate will be used into perpetuity to determine the terminal value. A discount rate of 10% will be used, representing my personal required rate of return. With these inputs, the DCF analysis estimates GOOS’s intrinsic value is $12.67 representing a potential 36.28% loss from the company’s current share price. Therefore, this DCF analysis indicates that shares of GOOS are currently expensive.

Takeaway

GOOS has built an excellent reputation within the luxury apparel industry by delivering iconic and timeless products to its customers. The company’s brand has never been stronger as it’s developed an almost cult like following. Moving forward, management will look to leverage the company’s strong brand to deliver on lofty financial goals which include boosting revenue to $3 billion and increasing EBIT margins to 30% by 2028.

From a valuation standpoint the comparative and DCF analysis yielded vastly different results. Using multiple valuation techniques is important because it can help investors make more informed investment decisions and limit the risks associated with relying solely on a single valuation technique. The reason the comparative and DCF analysis differ is because GOOS has delivered inconsistent free cash flows over the past five years, therefore I cannot invest in GOOS until I see a stronger record of free cash flow growth.

Thank you for reading!