V.F. Corp.: A Real Value Trap - Avoid Catching This Falling Knife (Rating Downgrade)

My mean-reversion thesis on embattled retailer V.F. Corporation (NYSE:VFC) hasn't worked out, as VFC sellers kept hammering it into lower lows. As such, VFC has revisited levels last seen in 2009, requiring me to zoom out on my monthly (long-term) chart to see how bad it was. I had expected V.F. Corporation to improve its execution challenges, but sellers have been proved right. The company has continued to face substantial downstream challenges affecting its ability to post a sustained recovery.

Notably, the hammering wasn't due to sector-specific headwinds, as the consumer discretionary sector (XLY) continues its remarkable recovery from its December 2022 lows.

Furthermore, VFC's significant underperformance in total return terms compared to its peers over the past year is stunning, falling nearly 44%. As such, I believe the headwinds are company-specific as V.F. Corporation grapples with execution and inventory challenges following the pandemic bust.

New CEO Bracken Darrell likely has his work cut out. He joined VFC less than two weeks before the company's fiscal first-quarter or FQ1'24 earnings call in early August 2023. As such, I expect Darrell (formerly CEO of Logitech (LOGI)) to helm V.F. Corporation's upcoming FQ2'24 earnings call scheduled on October 30.

In VFC's Q1 call, Darrell highlighted that the company's brands remain "robust and have strong equity." However, he stressed that the company's "business performance is not aligned with the strength of its brands." He underscored the "misalignment to factors within the company's control." In other words, I believe Darrell indicated a highly disappointing execution, but not irreversible.

Given how VFC fell further toward its October lows, I believe it indicates that investors aren't convinced about the company's recovery in its business model. As seen above, VFC's "D+" earnings revisions grade corroborates my thesis that execution challenges have hobbled the company. Keen investors should recall that the company's wholesale channel experienced substantial headwinds in FQ1, notwithstanding the improvement in its DTC channel.

In addition, the US market has continued to perform poorly, although there were green shoots of recovery in ex-US markets, including in China. Despite that, the wholesale challenges impacting its leading Vans brand have likely intensified investors' concerns.

Furthermore, the ongoing macroeconomic uncertainty and surge in bond yields likely reflect even higher execution risks in VFC, as its estimated FY23 adjusted EBITDA leverage ratio of 4.2x is concerning. Moreover, while VFC is seemingly cheap with a "B" valuation grade, it isn't that cheap (not in the "A" range) and is looking increasingly like a value trap.

Investors attempting to buy the bottom in VFC need patience and conviction that the team under new CEO Darrell has what it takes to improve its execution issues. Analysts' estimates have already been revised downward, projecting for V.F. Corporation to post an FY23 adjusted EPS of $2.10. It's markedly below the midpoint ($2.15) of the company's guidance range of between $2.05 and $2.25. While the bar has been lowered for the team to deliver, investors likely expect the challenges to persist.

Looking closely at VFC's long-term chart, I believe it's clear that the hammering from VFC's April 2021 highs is the worst that investors have experienced over the past ten years.

VFC is down nearly 85% from its 2021 highs toward last week's lows. I believe holders in a stock with a long-term uptrend before the pandemic bust likely didn't expect such a hammering.

That said, I believe the sellers have gotten it right, as my mean-reversion thesis has failed to work out. The company's progress is shrouded in significant uncertainty, and dip buyers have not demonstrated a strong resolve to stem its slide.

As such, I no longer hold a mean-reversion view on VFC, and the current levels are no longer constructive. Therefore, I believe a cautious view of VFC is appropriate, and investors should consider other opportunities in the sector.

Rating: Downgraded to Hold.

Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Please always apply independent thinking and note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified.

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