Swatch Group Releases Their 2016 Annual Report

On Thursday, March 16, 2017 Swatch Group released their annual report. This article will provide you with some of the basic numbers and things you should know. 

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Swatch Group Revenue & Income

Revenue and Income continued to decline in 2016. Sales revenue was down 11%, which is consistent with the broader watch market as reported by the FH in January. Profits were down 47% from the previous year with profit margins down to 7.8%, leaving Swatch Group with little margin. Their profit margins are starting to resemble high volume, low margin businesses as opposed to the luxury margins they had just 4 years ago.

Swatch group revenue and income

Swatch Group Revenue vs. Income (in million CHF). Based on historical numbers reported by Morningstar and Swatch Group 2016 annual report.

 

Swatch Group year over year changes to Revenue and Income (in %). Based on historical numbers reported by Morningstar and Swatch Group 2016 annual report.

Swiss watch sales data january 2017

Overall Swiss Watch Industry trends. Source: Federation of the Swiss Watch Industry, January 2017 (www.fhs.swiss)

Swiss watch sales data january 2017

Overall Swiss Watch Industry trends. Source: Federation of the Swiss Watch Industry, January 2017 (www.fhs.swiss)

Swatch Group Important Ratios

The Quick Ratio or Acid Test is a metric that measures a company’s ability to quickly provide liquid assets (such as cash or short-term investments, but not inventories since it is assumed flooding the market with inventories would destroy their value). Swatch Group’s Quick Ratio is now 1.96, down from 2.18 a year ago and down from a high of 3.0 in 2010. This is generally considered an “okay” level, mostly driven by Swatch Group’s very low debt level.

Return On Equity continues to fall, meaning the company is becoming less efficient with investors’ equity in the company. Valuation Academy notes the importance of ROE and the use of the DuPont Framework, which is used to calculate ROE:

Return on equity is vital because it is an important measure of a firm’s performance and potential growth. This system provides a structure where we can determine a firm’s strengths and weaknesses and its effect on the return on equity.

Using an efficiency measure known as the Dupont Framework, it yields the following information:

-Return On Equity: Currently at 5%, down from 8% in 2015

-Profit Margin: Currently at 8%, down from 13% in 2015

-Operational Efficiency (i.e. Asset Turnover): Currently at .84, down from .91 in 2015. Investopedia defines this as:

This ratio is an efficiency measurement used to determine how effectively a company uses its assets to generate revenue. The formula for calculating asset turnover ratio is total revenue divided by total assets. As a general rule, the higher the resulting number, the better the company is performing.

-Equity Multiplier (Assets to Equity): Currently at .82 up from .70 in 2015, but still very low due to low leverage (i.e. low debt)

Swatch Group Inventories

Watch Ponder has been following the inventory build up of Swatch Group. This is because 48% of Swatch Groups’ assets are now tied up in inventories. In February, I published an article entitled “Swatch Groups’ Dreaded Two Words: Growth and Inventories“. Here is what has happened with inventories since the 2015 Annual report.

Days Inventory Outstanding is a financial measurement metric that uses the total value of reported inventory and the cost of those goods to the company to approximate how many days of inventory the company has on hand. It does not refer to actual physical watches, rather to the value of the inventory versus how much it costs the company to produce those watches. In 2016, days of inventory have continued to grow significantly larger than their competitors (many investment banks estimate around 300 days, using an alternative method, Morningstar says over 1,000 days. Either way, the inventories are almost 50% of the company’s assets). The chart below is based on the 2015 Annual Report but shows Swatch Group’s inventory growth when setting side-by-side with comparable luxury companies.

Total value of inventory has increased by 2% with finished goods inventory increasing by 5%. Production appears to have slowed down with raw material purchases down 12% and goods in progress down 8%.

Inventory value in millions CHF as reported in 2015 & 2016 Swatch Group annual reports.

Swatch Group uses a weighted average method for valuing inventories, where they mark-to-market the value of inventories. Product lines that do not sell well are marked down to a fair market value. This has led to the company to write and/or inventory value by -41 million CHF in addition to the inventory growth.

Market Reactions

Overall, the stock markets reacted positively to Swatch Group’s report with the stock trading up +1.2%. A Bloomberg article cited positive expectations from analysts:

“We expect first signs of a return to positive Swiss watch exports trends to come in March,” said John Guy, an analyst at MainFirst Bank. “That will be driven by stronger consumption in greater China, where Swatch has the highest regional exposure, and a normalization of luxury sales related to travel in Paris.”

Bloomberg also reported that the company announced further expansion into smartwatches including the development of their own operating system.

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These are articles that report news events with minimal external analysis. In these articles, I look at the watch industry from the contemporary business events occurring and report those facts to the reader.

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