Kering：这就是 Gucci——[Business Breakdowns, EP.199]

Today, we are breaking down the global luxury group Kering, known for brands including Gucci, Saint Laurent, Bottega Veneta, Balenciaga, and many others. It is a luxury house with similarities to LVMH, but over the past 5 years, LVMH is up more than 40%, while Kering is down more than 60%.

To break down Kering, I was joined by Jonathan Eng, a portfolio manager at Causeway. Jonathan has spent more than 30 years in the investment space and has seen his fair share of cycles. We covered the Pinault family, the owners and operators of Kering; wholesale distribution versus retail distribution; the margin profile of brands; and the various levers that can be pulled.

Kering’s core brand, Gucci, is different from a lot of what you see in luxury, so we spent significant time diving into what makes Gucci more cyclical than understated luxury, where we stand with Gucci today, and how Jonathan thinks about all of this as an investor.

All right, Jonathan, I’m excited to have you here to talk about Kering. It’s one of those names where I think LVMH gets all of the attention in terms of the mainstream luxury houses that the market has studied and known so well, while Kering sits in the shadows a little bit. Maybe we could start with an outline of the brands underneath this umbrella and a little bit about the umbrella today.

Thanks, it’s a real pleasure to talk about Kering today. Like you said, it has been in the shadows, and there’s been a bit of a quiet rivalry going on for a long time.

Kering is a luxury goods company. It has a number of brands—15 or 16 brands now. The biggest one is Gucci. A position was started by Kering in 1999, and it steadily bought that up to a full position in 2001. They have some other brands like YSL, or Saint Laurent; Bottega Veneta; and Balenciaga. They’ve gone through some advertising challenges, and they also have eyewear, Alexander McQueen, and now they’ve just started a beauty business.

When you have a number of brands like that, you can add beauty to a number of these brands, and I think that’s a real opportunity for them over the next 5 to 10 years.

You mentioned Gucci there. I know it is the name most associated with the business. Does it represent a large percentage of revenues or profits, however you want to measure it? Is it really the dominant brand within the portfolio?

It is right now. It’s almost 50% of revenues and over 50% of profits.

When I compare it to Louis Vuitton, it has a bit more fashion to it. Louis Vuitton has a lot more leather, so it’s a little more stable as a business. If I look at Gucci, its popularity comes in and out depending on how well the fashion does. It’s about half leather, and the other half is ready-to-wear and shoes.

When someone like Alessandro Michele comes in and does really well, you see Gucci do very well. The multiple goes up, and people start to talk about it in line with the LVMHs of the world. You see it today, where it’s struggling a bit. They’ve changed designers, and they want the design to be a little more quiet. Quiet luxury has been a very popular theme.

Kering has hired Sabato De Sarno. He’s the new designer, and he came from Valentino. They are now updating all of their designs, bags, shoes, and everything else. We’ll see what he does, but it’s been a challenging time for them, so it’s a good time to talk about it.

You were tapping into some of the things that stood out to me in terms of thinking about Gucci relative to some of those LVMH brands. Before we get too far into the business today, I don’t want to overlook the past. There’s the family associated with LVMH. What is the backstory with Kering in terms of the family operation, and what other dynamics would you point to in terms of its history?

If I look at Kering, it was an eclectic set of businesses back in the 1980s and 1990s. They were in the timber business and in a number of distribution businesses—very regional and very European. Maybe 40% to 50% of their overall business, when they had €22 billion in revenues, was European-related.

When the father gave control to François-Henri Pinault, I think he looked at the portfolio and said, “We’ve maxed out on what we can do in some of these distribution businesses.” They had electronic retailing, furniture retailing, and construction goods retailing. A lot of these businesses were local, so they couldn’t benefit from global expansion into international markets.

There was a takeover attempt by LVMH in 1999 to take over Gucci. Gucci needed a white knight, and the CEO and the Gucci family came to Kering. Kering took a stake, and over the next 2 years, they won out and took over Gucci.

That was their first foray. Over time, they bought some other brands—Bottega Veneta, Balenciaga, and YSL—probably in a pretty quick period of 3 to 5 years. They disposed of many businesses. They got rid of Conforama, Rexel, some of the electronic retailing in France, and then, finally, Puma. That was the final disposal.

Since then, they’ve done a great job scaling up a lot of these businesses. That’s a challenge in itself in luxury.

With the Gucci acquisition, it was particularly fascinating as I read a bit about it. The idea of Kering being a white knight relative to LVMH at the time—is there a different approach or a more brand-friendly approach? LVMH certainly has some stereotypes associated with what they do when they take over brands. Would you say there’s a large contrast in terms of what Kering is known for?

I think Kering has done a really good job scaling the business. Kering is a bit bigger, but take Bottega Veneta. When they took it over, a lot of it was wholesale. It was a business with, let’s say, €50 million or €100 million in revenue. Putting that business into a company like Kering with different brands is a big advantage, because when you’re smaller, you start out more wholesale. Then, as you get bigger, you can transition to more retail.

You might start out 70% or 80% wholesale, and then by the time you get bigger—say, to the size of Gucci or even Bottega Veneta these days—you’re 70% or 80% retail. Developing that as your own company is a lot tougher. Having the expertise of a multibrand strategy really helps a company like Kering.

They can help you with what type of store to have, what size store, how many pieces you need, and all the back-end logistics and IT. They can help you get a CEO and put someone in place. The CEO and the creative director need to be on the same page strategically to develop the brand.

It’s a real challenge getting a luxury brand to a certain level and then taking it to the next level. That’s where Kering is really good. LVMH is really good, too, by the way, and they’ve done it across many different areas. I’m not going to dismiss anything that LVMH has done.

If I look at Kering and what they’ve done with Gucci, Saint Laurent, and Bottega Veneta, their strength is really being able to scale up businesses and develop them over time. Bottega Veneta was €56 million; it’s now €1.7 billion. That’s happened in 25 years. It’s pretty impressive.

Do you think there are any sharp contrasts between the two approaches of LVMH and Kering?

LVMH has Sephora, luggage, and a hotel brand. They also have champagnes and wines, so it’s slightly different. If I look at Kering, it has more ready-to-wear and a little less leather. LVMH has a lot more leather.

LVMH has done a phenomenal job with Dior, although they have a little bit of a challenge going forward given that pricing has gone up for them. Really, the difference between the two is the different areas LVMH is in outside of the Louis Vuitton and Dior brands.

When you look at Kering, you mentioned there have been some divestitures and referenced some of the brands. When you think about what’s left, I associate all of them with luxury brands. The shift away from Puma is fairly clear—I wouldn’t put it in that category. Is that a fair way to think about it?

Luxury is a term that can be argued in terms of what qualifies, and it could be viewed as a very small percentage, but it certainly seems to have been the direction they’ve moved in.

Absolutely. It’s been going on for a number of years now, and Puma was the final divestiture.

Puma was a 10% margin business. Gucci, over the last 20 years, has been a 30% to 40% margin business. That’s a big difference from Puma, which is a 10% margin business.

Luxury overall is a 70% gross-margin business, and on average it’s about a 30% operating-margin business. LVMH is probably a bit higher, and Hermès is higher, too.

Thinking about revenue fluctuations at a higher level, you referenced one of the things I was most curious about, which is Gucci. I associate Gucci with fashion to a larger extent, and you helped answer some of that by referencing leather as being perhaps less pure fashion-forward.

Kering’s portfolio is tied to macro dynamics. Is it cyclical with macro environments, or does it show defensiveness through periods when there is still demand from the top 1%? What has that looked like over time?

They are cyclical businesses, because global wealth is cyclical. If I look at 2003, when there was a recession, and 2009, which was the big one with the major downturn, luxury goods stocks derated.

I remember buying Richemont during that period. Richemont owns Cartier and Van Cleef & Arpels. It went to 1 times book, and that was a great buying opportunity.

As an investor, sometimes we’ll use book values or P/E multiples to figure out how to value these companies. When global growth is doing really well, when asset prices are going up, and when the top 1% are doing well, these are great businesses. They grow 9% organically through price and volume, and there’s operating leverage on top of that. It’s a great business.

But when you have downturns, like COVID or 2009, they’re difficult investments to have. They’re great for about 8 out of 10 years, and 2 out of 10 years they’re pretty tough. Last year was a difficult year. This year, in 2024, is a difficult year. This is the sixth-worst year in luxury out of the last 20.

That’s certainly coming off a high, in terms of what was happening. Maybe it’s a reset to some extent on price and volume. Whether you want to use 9% organic growth as a reference or just frame the equation, is there a general framework you think about for year-to-year performance?

What price improvement drives revenue, and then obviously volume is going to fluctuate. How do you think about those two components together?

I usually think of about 3% to 4% price and maybe 3% to 4% volume. There’s some mix in there as well. Sometimes you discontinue certain areas, or when you introduce a product, you come in at a higher price. That leads to higher revenues as well.

There’s a mix of all 3 of those factors helping revenues grow.

Would you say that’s fairly standard across the industry, or are there certain players that are much more aggressive on price than others?

I think they’ve all been pretty consistent. COVID was very unusual. There were much bigger price increases during COVID—more like 10%, 15%, or 20% a year—and that’s starting to catch up with the industry a bit, particularly in the soft leather area, where there’s a lot more competition.

We’ve seen the likes of Chanel and Dior raise prices 50% over the last 3 or 4 years. That’s a lot, and consumers are starting to notice.

You want to have that balance. You don’t want to have too much volume growth, and you don’t want to make your product too available. You want to make it something people connect with, but they also need to understand that the price going up represents a store of value.

If I don’t buy it this year, it’s going to be more expensive next year. The price doesn’t come down. It’s not like I can go somewhere and buy something 50% off. It’s not going to be 50% off. It’s training the consumer to have a certain mindset.

I don’t know if Chanel had a PR campaign that drove all those Bloomberg articles referencing the price of its bags and how they have been a successful investment over the years, but it sure was an effective way of creating that mindset—that next year it’s only going to be costlier.

Definitely true on the margin side, you talked about the differences between Puma and Gucci. I can understand that if you have a store footprint, there’s going to be some operating leverage associated with it, but what are some of the key cost drivers or cost levers involved in this business?

Making the product is probably 30% of the cost base, and you can see the gross margins are near 70%, so it’s a very profitable business by itself.

There’s a lot of support around that. Obviously, you mentioned the store network. There’s a wholesale network and salespeople to deal with, and that’s a big part of the cost base.

The other part is advertising and promotion. A lot of times you’ll see the brands in magazines or on billboards. They get the name into your mind at the right points in time. You’re out on vacation or at leisure, you’re playing golf, and you’ll see these sorts of things. You’ll see the names in people’s minds.

The other one is people. There are a lot of people and a lot of creativity, and with creativity comes a lot of cost. Those are the 3 real buckets.

When you see operating leverage in the business, thinking about these costs as a percentage of revenue, the store footprint and real estate costs are going to be largely fixed, so you’re going to see operating leverage there. But with the other costs, do you see operating leverage on top of advertising, or are they just putting that money back into the business?

We’ve seen some brands do that. They get to a certain level of operating margin and say to us, “You’re not going to see any more operating leverage. We’re going to reinvest it back in the business.”

They might open new stores or advertise more. Some management teams take a longer-term view and say, “We’re going to reinvest that back into the business.” There is a limit to how far that will go.

Now that they’ve divested Puma, which sounds like it was the lowest-margin business within the portfolio, how much variability is there in the margin profiles of the various brands?

Maybe focus on Gucci, obviously being the largest. You shared some of those dynamics, but relative to some of the other larger brands, are there drastic differences in terms of margin profile?

With size comes better scale, so Gucci has higher margins. It also has more fashion.

Under Alessandro Michele, when Gucci got to a €10 billion revenue business, operating margins hit 40%. That was one year when it was in that range. From €8 billion to €10 billion, it was operating in the 35% to 40% margin area.

Today, Gucci is a €7.5 billion business. Obviously, that’s why we’re talking about it—it’s so interesting where it is—and it has just over a 20% margin.

To answer your question, there’s a lot of variability in the business. That’s why historically it has sold at a discount to LVMH. Investors have looked at it and said, “I think there’s more variability in your business.”

The last couple of years are a good indication of that. Revenues have declined as there’s been a design change and luxury has been tougher. You’ve seen consumers say, “I’m going to pull back a bit. I’m going to buy a little less, but I’m only going to buy the really top brands or the brands that I really love.”

Gucci has a more aspirational consumer as well. Those consumers were having a tougher time this year and last year due to higher interest rates, and they pulled back. You’ve seen operational gearing in reverse, basically.

You kept the cost base. You reinvested back in the brand. Maybe you cut some wholesale back, but when revenues decline 25%, profits are down 50%. That’s basically what’s happened to Gucci.

That’s why it’s so interesting. With the creative director, you’ve had these icons—Tom Ford in the 1990s, as well as some of the names you’ve mentioned recently—and they feel so important. Most investors think about a management team change as a new CEO or CFO. This feels like one of the most relevant roles within a corporation that isn’t the CEO title.

How do you approach that as an investor? When you see a change, how do you get comfortable with what the new person is going to bring?

A lot of times, when we have a CEO change at a normal company, we do a lot of background work on what they’ve done in the past. It’s a good thing to look at someone’s résumé.

The same thing applies to a designer. Sabato De Sarno was at Valentino. We take a look at what he has designed and his vision, and we ask ourselves as investors whether the customer base is willing to change and go in that direction.

I think that’s a really important point, because so far the answer has been “not yet.” To be fair, though, his designs have only been coming out over the last 3 months. A lot of leather bags are coming out in September.

As an investor, you’re doing a lot of work around questions like: What did he do at Valentino? What did those sales look like? What did those margins look like? Was that a successful company? Can that be transferred over to Gucci, which is a little more fashion-oriented?

In the past, Gucci did well under Tom Ford and Alessandro Michele. Can that happen this time? That’s really what we ask ourselves when it comes to something like this.

You’ve referenced the difference between traditional leather—something more timeless in design—and something that’s fashion-oriented. What gets you comfortable with the direction and gives you confidence that there is going to be a hook?

This can span into the brand’s impact on shaping fashion and culture—actually being the leader and telling people what they want to wear and how they want to dress. The easy way out would be to pick something timeless, where there’s going to be less variance, but I’m sure that’s not the answer.

We do a lot of work on Instagram, following the strength of the brand. We look at certain surveys, like Lyst in the United States, and how certain brands are doing. I think it’s important to look at those indicators.

You want to understand how it’s going and whether it’s being well received. Sometimes we’ll talk to the stores. Obviously, we look at the Instagram following and the likes. We try to understand how that brand is developing.

It’s always dark at the bottom. You never have complete confidence when you’re at the top. Everything is clear then. There’s never been a more bullish picture than when things are at the top, but at the bottom, things are pretty dark.

It’s like picking up a newspaper in the crash of 1929 and trying to find good news. That’s what you’re trying to do when you’re looking at Kering right now. It’s pretty dark. People are telling me it’s bad. Is it really that bad? Let me try to find some good news.

That’s what our analysts are trying to do when we talk to the company and competitors and conduct our research. We’re trying to find that good news that gives us confidence to make this a big position and invest for 2, 3, or 4 years. That’s what we’ve done with names in the past.

It certainly helps when a brand or brands have the history that these brands do. They’re not something that’s a flash in the pan, so there’s something to hold on to with that intellectual property, and I’m sure that drives a lot of confidence.

You mentioned some of the things you’re monitoring. Twenty years ago, you weren’t monitoring Instagram likes. How much has that changed in terms of having a feel or grasp on this market in your day-to-day work?

As there has been a shift in what drives culture, technology, and all these different dynamics, has it drastically changed the investment process or perhaps just the analytical process?

I think it’s changed the analytical process. Decisions are still decisions, but today there’s a lot more data available. You have credit-card data, Instagram likes, and all this information available to us as investors. It’s all public knowledge, so why not use it to your advantage?

The world has become more global, too. Twenty years ago, the Japanese were the big buyers of luxury, and obviously the Europeans were as well. The Chinese were very small. Over the last 10 years, they’ve become a much bigger part of the industry. They were probably almost 50% of growth over the last 10 or 15 years.

Now that’s down. Over the last few years, they’ve accounted for only 10% of growth. Americans have now become a much bigger part of the luxury industry and the luxury buying group.

Americans account for a third of global wealth, but they buy 20% to 25% of luxury products, so they actually underspend. The Chinese overspend. They’re probably 25% of global wealth, although their wealth has come down over the last few years, but they spend 35%.

That’s why there has been so much focus on China and what’s happening there. Investors are using this sort of data that we talked about.

In terms of those demographics, do you like to see more exposure to certain regions? I’m sure some diversity in spending would ultimately be best, but if we were to put the North American customer relative to the Chinese customer, would you prefer to see more growth from one specific subset?

Revenue is revenue at the end of the day. Obviously, you’d like to have it balanced, because you have a store base that you need to support. You wouldn’t want to have it be 90% and 10%, but as long as it’s balanced, that’s the answer.

Thinking about the supply chain and manufacturing process, particularly the upstream inputs and logistics, is there anything unique to what they’re doing? You hear about the history of these brands and how they originally started, but over the years, is there anything that stands out about the process at Kering?

I know it could be this way at other luxury companies, but Kering has development centers in Europe. They have a development center for leather and one for ready-to-wear.

If a particular brand says, “I have this idea in ready-to-wear,” it can have it developed at the development center in Europe. This one, I believe, is in Italy. The development center will help design it, source the materials, and determine where to distribute it.

It’s a big advantage to be part of something like Kering. You can take a design concept and make it a reality a lot faster and easier with these development centers.

It sounds like there is some centralized infrastructure available to the brands. Is most of the actual decision-making on the product and what’s released still decentralized at the brand level?

It is. I think what you want is for the CEO of a brand and the designer to be in concert with one another strategically. You want the CEO to figure out and implement that strategy, but you want the designer to design. You want people to do what they’re really good at.

I think that will always be local, and it will always be decentralized.

On the downstream supply chain, logistics, and distribution, you mentioned wholesale versus retail exposure. What does the difference look like in terms of wholesale margin versus a mature retail operation? How drastic of a cut are you getting with wholesale, and what are the other factors?

It sounds like having a balance is okay, but I sense that there’s more opportunity when it comes to operating your own retail locations.

You have more control over pricing, more control over the product, and more control over inventory. You know when something is sold, so you can replenish it—or maybe not replenish it. In wholesale, you’re selling, but you don’t have that visibility.

The margins are good. I don’t think there’s a huge difference. There might be some, but you don’t have control over pricing. When things aren’t selling well, there will be some degradation in the margin.

Really, it’s about control and having the relationship with the consumer. I think that’s what luxury brands are trying to do these days: establish that connection. Who are my consumers, and what do they want?

When you’re selling wholesale, which is fine when you’re smaller, you don’t have that connection as well. You don’t know firsthand exactly what the consumer is looking for.

The control point makes a lot of sense, particularly on pricing. As I think about clearance racks and seeing certain brands there, it can tarnish things. You also don’t have somebody who is going to tell you the story of that brand and deliver that message.

There are certainly great distribution channels for smaller brands, but as you mentioned, that starts to matter more as a brand scales.

The point about salespeople is a great one, by the way, because they represent the brand. They’ve been trained, they can sell, and they can help you fulfill that product.

Whether it’s a specific playbook for taking over a new business and hitting certain targets, or just a general philosophy around retail versus wholesale targets, is there a deliberate strategy in terms of what the right balance is?

When you’re small, it’s more like 70% or 80% wholesale. As you get bigger, to the size of the brands we talked about—over €1 billion—you’re really thinking about 80% retail and 20% wholesale. There’s a big switch.

It’s a big investment to go from 80% wholesale to 80% retail. There’s a big change in terms of the capital invested.

When a company is making that shift, are they doing these things at the same time, with store build-outs? Each one comes with various challenges, and as you mentioned, it’s a large capital-expenditure program. When you look back over history, are there examples you can point to in terms of how long it typically takes and how often they do this with different brands?

A lot of times, a company like Kering or LVMH might locate the stores right near one another. If LVMH is there, you might see Dior nearby. They might negotiate the rents together.

It’s really important for corporate to understand the great location, what size store to put up, and whether there’s enough product to fill 2,000 or 3,000 square feet. If we rent 3,000 square feet and only have product for 1,500, we’re in big trouble.

Understanding the location is really important, because that sends a big message. What size store, what product to put in it, and what type of consumer we’re going to get all matter. Co-locating a lot of these stores and negotiating a better rent is also possible.

When you’re just one brand, you want one location. When you’re 5 brands, maybe you want 5 locations. That’s a little more attractive in terms of rental expense.

I mentioned geographical exposure before, just at the highest level, but for specific brands, do you see a lot of preference for certain brands in specific regions?

Bottega Veneta may have large exposure in Europe, for example, whereas Gucci has more exposure in the United States. Is that something common, where there’s specific geographical dominance within a brand?

Sometimes a brand will have a better name in a specific region than it does in another region. I think that may come from some historical presence.

If I look at the different brands, they’re all positioned differently. It’s important to understand within Kering that Gucci is positioned differently from Balenciaga and Saint Laurent, and differently from Bottega Veneta. They will have different geographic presences, to be fair, but it doesn’t vary that much.

Bottega Veneta is a little stronger in Europe and Asia, as you mentioned.

You mentioned the stores being next to one another. It made me realize that, when I go through certain shopping malls, I see these brands I wasn’t familiar with before. Bottega Veneta was one of those many years ago.

I started to wonder whether it was popular in Europe and perhaps making a bigger splash in the United States, but I think I’m connecting the dots now.

Balenciaga was a story that got a lot of attention because of a very misguided advertising campaign and the fallout from it. I associate many luxury brands with having an almost safe advertising strategy. Balenciaga would not be categorized in that safe category, perhaps because it was more fashion-forward.

How do you think about the fallout, the brand value, and the reputation of a brand when considering the risks? I think it’s a good use case for what can happen.

It’s a great case, and it’s a very unfortunate case. But I think it’s important to understand that Kering has a multibrand strategy. When something like that happens at Balenciaga, it doesn’t hurt the whole company. Obviously, it hurt the brand.

The same thing happened with Volkswagen during the diesel crisis. Volkswagen has Audi, Porsche, and other brands that it can support. It’s the same thing with Kering.

It hurt Balenciaga. It’s been very detrimental, particularly in the United States, where sales declined quite a bit, and it’s still struggling. It’s still having an effect, because people remember. People have long memories.

I know people who have Balenciaga goods or products, and they are reluctant to wear those products sometimes because of the message they may send. Brands really need to be careful about what they say to consumers and the message they send, because when you make a mistake like this, it hurts for quite a while.

We’re still talking about it 2 or 3 years later. It’s very detrimental.

Is this something where you could see a divestiture at some point? How do you think about it within the portfolio, getting past the question of whether it bounces back and things get cleaned up, or whether it’s so detrimental that it could ultimately destroy a brand?

I don’t see a divestiture. I think they will trade through it. A big mistake was made, obviously, and they’ve corrected it. They have a lot of measures in place now, and they’re moving forward with the design and the message.

I don’t see them disposing of it. The business is still doing okay outside the United States. The damage control and repair have to occur mostly in the United States.

That geographic point is interesting. It feels like a campaign that could do that much damage, and I would counter that with how much upside you could get from a great campaign.

How do you think about that from the investor side? Would you prefer it to be a little safer? Thinking about the world of upside, downside, and risk, it’s an interesting case study.

It is a little more edgy and has a more urban style, so the message is a bit edgier. If I look at LVMH, there’s nothing wrong with having a bag thrown over a shoulder on a boat or on a dock, with someone looking relaxed. That picture sells very well.

I see LVMH as having a more conservative message, and the product placement is usually perfect. They pick someone who is very popular and has a following. I don’t think that formula is going to change.

For brands that are a little more fashion-oriented, the message will be a little edgier because that’s the consumer they’re trying to attract. It really depends on what type of product you have and what type of consumer you’re trying to attract.

On the portfolio side, you have LVMH and Kering. These are acquisitive businesses, at least when there are opportunities to acquire. How do you view the M&A landscape for Kering over the next 3 years?

Do you expect there to be acquisitions for them to make? Is that something you get excited about as a future growth engine?

They own 30% of Valentino, and they have a put or call option to buy the rest in the next few years, so that’s possible.

Their balance sheet is a bit stretched. Net debt to EBITDA is 3 times right now, and I think that’s hitting the limits for investors. They’ve been quite acquisitive. They recently bought Creed and eyewear, and they bought the 30% stake in Valentino.

I don’t see them making many acquisitions outside of the 70% stake they may buy in Valentino. I see them disposing of some of the real estate they bought, perhaps selling a minority position in some of the retail stores they bought.

I think one was in New York, one was in Italy, and one was in Paris. They bought some great locations to defend their retail sites. They’ll keep at least 50% of those, but I see them disposing of part of them.

I don’t see them making many acquisitions. I think they have the portfolio they need for the next 5 years.

On the real estate point, would that be a sale-leaseback transaction or an outright sale that could be split up among many different partners?

They bought the whole retail site, which was obviously pretty expensive. I think they were somewhere over €1 billion each. What they’ll do is sell a 49.9% stake. I don’t know the exact number—I’m making that up. It could be 40-something percent—but they’ll retain control over the property.

I think it’s really important for a brand to have control over that site. You don’t want to be moving sites and losing a location where customers are comfortable.

It’s interesting to think about this from the real estate investor’s perspective. On the 30% stake in Valentino and the option to buy in the future, there does seem to be a common theme with luxury brands.

Going back to the Gucci acquisition, LVMH did have a stake in Gucci. You see this building over time. What do you think drives that, relative to an outright purchase of a brand? It feels like there are various steps along the way when it comes to luxury.

Part of it is the price. A lot of these businesses sell for 4 or 5 times sales, so they’re not cheap. There’s almost a dating process before you get married. You’re feeling each other out to see whether it works.

What happens inside the company? Could we make these changes? Would this work if we did that? Someone like Kering or LVMH would want to find out whether it works culturally.

A 30% or 40% stake is a good way of seeing if it works and letting the company know that you’re there.

Exactly. It’s a very interesting dynamic and what it leads to. Sometimes the relationship doesn’t develop further, and sometimes it does, but it’s fascinating to see.

The last thing I wanted to ask about is the ownership in Christie’s. Does that sit under the Kering umbrella, or is it outside of Kering?

It’s outside. It sits in Artémis, which is the family-owned company. That sits outside the Kering group and is owned by the Pinault family.

Do you have any sense of why they decided to go that route versus putting it into the business?

Christie’s doesn’t really fit within the luxury brands. It doesn’t have the synergistic development that the brands have. There’s no development of a product; it’s really a service.

It doesn’t really fit within the Kering group. It doesn’t gain the synergies of a retail site or having development centers for ready-to-wear and leather. It’s harder to justify the synergies, and I think that’s why it sits in Artémis and not within Kering.

On the valuation point, you’ve given a few different frameworks for thinking about it, whether it’s price-to-book, price-to-earnings, or price-to-sales. How do you generally approach valuation for Kering?

You could talk through the cycles and give various ways of thinking about it, but what is your approach?

The price-to-earnings multiple is always the best, I think. Right now, if you look at Kering, it’s on 18 times forward earnings, which is close to where it should sit from a valuation perspective.

The interesting thing about Kering is that Gucci and a lot of its brands are currently under-earning. If I look at Gucci over 20 years, it has been a 30% to 40% margin business. When it was a €4 billion business, it had a 30% margin. When it was a €10 billion business, it had a 40% margin. Today, it’s at 20%.

When I say it’s on 18 times earnings, if we were to plug in a 30% operating margin for Gucci on a €7.5 billion or €8 billion revenue business, you get the P/E multiple down to less than 10 times.

We all know that’s the wrong multiple in a market that’s at least 12, 13, or 14 times earnings. That’s a good way of looking at Kering, because some of the other brands are also under-earning. Saint Laurent is struggling as well, and Bottega Veneta is under-earning too.

But Gucci is the big one. If you can buy this at under 10 times forward earnings, that’s pretty attractive.

EV-to-sales is also a good metric, because enterprise value to sales includes the debt on the balance sheet. Right now, it’s near 2.5 times, which is extremely low. LVMH is at 4 times, which is low for LVMH as well. The sector is even higher because Hermès is on such a high multiple.

Kering trades at a 50% to 60% discount on an EV-to-sales basis, and I think that’s also a big discount to historical valuations.

The other thing I look at is private-market value. We talked about Valentino being bought for 4 times sales. A lot of transactions have occurred at 4 to 5 times sales in the past.

If I look at Gucci, with €7.5 billion or €8 billion in revenues, at least 4 times sales is almost the market capitalization today, given that it was a 30% to 40% margin business. Obviously, there’s some debt and some property, but there are other brands as well.

You’re getting a lot of those other brands, which account for almost 50% of revenue, for free as an investor.

You like to triangulate and look at different methods, but when you come to the same answer, as we do with Kering these days, and the stock is down from €800 to almost €200, you get more comfort as an investor.

That’s what you’re looking for: ways to get comfort. As we mentioned before, when you’re at the bottom, it’s dark. You want to look at things and say, “The valuation makes me comfortable. Some of the data I’m looking at makes me comfortable. The management’s track record makes me comfortable.”

Gucci sales are down 25%. That’s not good over the last year or 2, but over 10 years—from 1994 to 2004, when Tom Ford was there—it was up 8 times. Under Alessandro Michele, it was up 2.5 times.

When you look at the business over time, it grows and grows nicely. Obviously, the last 2 years have been very difficult.

It’s a show-me story. You’re not necessarily banking on multiple expansion. It feels like they can earn their way into stock outperformance.

The market might be trying to imply that the margin degradation isn’t cyclical at this point. In theory, these things have cyclicality, but has this margin compression lasted longer than what you’ve seen historically?

Usually, it lasts for only a couple of years—2 or 3 years would be the most.

We’ve asked the company to protect the balance sheet. You’ve done a good job changing the designer, and I understand that you’re investing in the business, but at some point you need to protect the income statement.

Some costs need to be cut, and some stores need to be shuttered. You’re not a €10 billion business anymore at Gucci; you’re €7.5 billion. Some of the costs need to come down to protect the balance sheet.

I think it’s really important as a shareholder to converse with the management team and share your opinions. That’s one of the benefits of being a big shareholder. You get to have these conversations.

You might be the one saying, “Cool it on the M&A for a little while and protect the balance sheet.” That would also be my view.

On capital allocation broadly, it sounds like there are going to be real estate sales that would go toward debt paydown, I assume. When you think about the general function of capital allocation and the different priorities they have, what would you point to historically?

Have dividends or buybacks ever been a theme for Kering?

Dividends are a big one. As I mentioned before, it’s family-controlled. Artémis owns Christie’s and just bought CAA, and that takes money. Dividends are a big focus for family-owned companies, typically, and that’s definitely the case with Kering.

Obviously, they’ve made some acquisitions and bought some real estate, but it’s still a very cash-generative business at the end of the day. There’s not a huge amount of capital expenditure normally.

I see Kering having a good dividend payout ratio of 40% to 50%, because the family is going to want that cash.

We’ve discussed risks in terms of what has happened to the business, with operational execution and margin compression. Is there anything we haven’t mentioned on the risk side that stands out to you?

I always think the operational gearing of businesses, both on the upside and the downside, is really important to understand. It’s misunderstood by a lot of investors and underestimated a lot of the time on the way up and on the way down.

It’s something we try to look at historically, but I’m always in disbelief when it occurs. This time was a big one.

Very well said. I completely agree with you, and it continues to surprise you even if you appreciate it. I love that point.

This has been an excellent conversation. I was very intrigued by the business as I was researching it, and you filled in a lot of the blanks for me. Your overall framework for thinking about the business was excellent.

What would you point to in terms of the key lessons that stand out from studying Kering and that could potentially be applied elsewhere as an investor?

Understand that change takes time. When I look at Kering, it did so well under Alessandro Michele that Gucci became a €10 billion business with a 40% margin.

I think what happened was that the popularity started to decline and the product may have become a bit too narrow. Making a change at the designer level, and even at the CEO level, takes time.

Management change and designer change take time. It takes time to change that product line. If I were to take one lesson from all of this, it would be understanding how long it takes to get a new product into the store.

Investors say, “The product isn’t working. The margins are down. It’s not going to work.” But it takes time. The product is just getting into the store, and it’s almost 2 years later.

That would be the big lesson for me: be patient.

I love it. Thank you, Jonathan. This has been an excellent conversation. I’ve enjoyed it very much, and I appreciate you sharing your knowledge.

Thank you. I appreciate it. Thanks for having me on.