Gruppo Banca Leonardo June 23 2009 Benetton Group UNDERWEIGHT A fancy color diamond Target price €5.4 (from previous TP €5.0) Benetton Group is one of the main global players in the apparel business, present Current price €6.3* in 120 countries with over 6,200 stores and five brands. In 2008 the business was *Price as of June 18 2009 re-focused on four strategic priorities: 1) accelerating expansion in five key emerging countries; 2) pursuing growth in consolidated markets; 3) developing Outstanding shares (m) new commercial initiatives; 4) evolving the culture of the organization. Starting 183 from 2008 the company has also adopted a new approach focused on the final Mkt. Cap.(€m) consumer, leveraging on the wholesale business model with a sell-out approach. 1,156 Due to the changed economic environment the company also adopted in 2009 a Avg. daily volumes (30 days) reorganization plan focused on boosting the commercial business, on optimizing 251,600 shares the supply chain and costs, and on cash generation, aimed at motivating the Main shareholders network and re-thinking the supply chain processes to create a lower cost base. Edizione 67.1% Even if we appreciate the reorganization plan and the new company approach to Reuters / Bloomberg the market, we remain cautious given the low visibility on future consumer trends. BEN.MI / BEN IM UNDERWEIGHT with a €5.4 target price. Last 12 months Catalysts High: €8.3 Low: €4.4 1) Unfavourable macroeconomic conditions; 2) pressure on sales and margins; 3) business proposition "quality at an accessible price"; 4) new sell-out approach; 5) reorganization plan; 6) potential new consumers from trading-down trend; 7) new commercial initiatives (i.e. menswear, baby and childrenwear, accessories). Earnings trend 12-month share performance Benetton Group We estimate a -0.6% CAGR 2008-11e for revenues, -5% for EBIT and -8% for 8.50 FTSE Italy All Share net profit. The reorganization plan should bring in structural savings of ca. €50- 8.00 MSCI Europe 70m on a 12-month base (therefore partly also in FY09) to be reinvested in the 7.50 7.00 commercial business and partially balancing the reorganization costs. 6.50 6.00 Valuation 5.50 Our DCF model, based on a perpetual growth rate of +2% (unchanged) and a 5.00 10.4% WACC (from 10.7%), returned a target price of €5.4 (implicit P/E09e 4.50 4.00 of 9.9x). 3.50 3.00 Risks JJASONDJFMAMJ 1) Aggressive competition driven by price policies by competitors; 2) worse- June 19 2009 Source: DATASTREAM ning of the macroeconomic scenario; 3) lower-than-expected benefits from the reorganization plan; 4) lower-than-expected growth in emerging markets; 5) financially distressed clients; 6) increasing debt. 2007 2008 2009e 2010e 2011e Performance 1M 3M 12M EPS € 0.80 0.85 0.54 0.60 0.66 Absolute (%) 2 22 -22 YoY growth % 15.8 6.6 -35.9 9.8 9.9 Dividend € 0.40 0.28 0.18 0.20 0.22 To FTSE Italy All Share (%) 4 -11 14 P/E × 15.6 7.5 11.6 10.6 9.6 Dividend Yield % 3.2 4.4 2.8 3.1 0.0 To MSCI Europe (%) 2 2 12 PEG × 1.2 EV/sales × 1.3 0.9 0.9 0.9 0.9 EV/EBITDA × 8.1 5.4 6.1 5.7 5.3 Source: Datastream EV/EBIT × 11.2 7.5 9.8 8.9 8.2 EV/capital employed × 1.4 0.9 0.9 0.8 0.8 ROE % 10.5 11.3 6.8 7.1 7.4 ROCE % 13.1 12.5 9.6 10.0 10.2 Debt/Equity × 0.3 0.5 0.5 0.4 0.4 Paola Pecciarini FCF Yield % -1.3 -4.2 2.6 3.9 3.5 Tel. +39.02.72206.604 [email protected] Source: Company data, GBL estimates NOT FOR DISTRIBUTION IN CANADA, AUSTRALIA OR JAPAN Italian Luxury & Consumer Goods June 23 2009 SWOT Analysis Chart 1 - BENETTON GROUP: SWOT Analysis Strengths Weaknesses “Quality at accessible price” Concentrated sales mix Global brand recognition for UCB Wholesale distribution limits control Capillary distribution Still limited brand awareness on interna- Focus on wholesale distribution with sell- tional markets for second lines out approach Mature sector with aggressive competi- New collection structure tion Outsourcing and delocalizaiton of production Sector entry barriers are low Supply flexibility Industrial flexibility Opportunities Threats Reorganization plan "Collection" and fashion risk Development of UCB men's collection Macro-economic scenario Accessories Real estate investments Development of Undercolors Mark-up policy Development of childrenwear Financially stressed third-party retailers Re-launch of Playlife Development of licenses and further brand extension Emerging markets Store attractiveness improvement Consumers’ trading down Real-estate spin-off Source: GBL estimates Strategy and management targets Strategy 2008 strategic priorities In 2007 Benetton Group appointed a new CEO, Mr Gerolamo Caccia Dominioni, who started refocusing the business on new strategic priorities, with the goal to accelerate growth in a sustainable and profitable way. The key strategic priorities set-up from 2008 are: 1) development of "taylor-made" approach (flexible business approach that takes different strategies according to different market needs into account); 2) to accelerate expansion in key emerging countries by focusing on five high-potential markets (India, China, Russia and ex-URSS, Mexico, Turkey); 3) to keep growing in consolidated markets through brand extension and new store openings, reducing collection complexity, to develop new commercial initiatives (UCB Man, Benetton Baby and Baby Under, Sisley Young, accessories); 4) to evolve the culture of the organization (matrix approach to maximize growth opportunities of each brand in every market). 32 NOT FOR DISTRIBUTION IN CANADA, AUSTRALIA OR JAPAN Gruppo Banca Leonardo Italian Equity Research Italian Luxury & Consumer Goods June 23 2009 Profitability drivers From 2008 the Group also started to focus on a sell-out approach, due to the new competitive environment and the changed consumers' behaviour. Particular focus is now on: 1) optimizing the delivery cycles according to sell-out time (providing better service and flexibility to the partners to phase the commercial offer for local consumers, thus also optimizing transport costs through differentiated deliveries based on store clusters); 2) new role of agents; 3) improving store attractiveness to raise sales per store (increased traffic driven by the introduction of new store concepts and product extensions); 4) improving the sales mix (i.e. increasing contribution of accessories, menswear and hanging garments). Table 1 - BENETTON GROUP: Geographical diversification % on total sales 2000 2001 2002 2003 2004 2005 2006 2007 2008 Italy na na na na 51.0% 48.0% 47.9% 48.5% 46.6% Rest of Europe * 65.1% 68.7% 68.9% 73.3% 17.7% 20.7% 36.3% 38.0% 35.4% America 12.3% 10.2% 9.6% 6.1% 10.2% 10.2% 3.3% 2.4% 3.0% Japan 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% Rest of Asia 8.7% 7.3% 6.9% 6.6% 7.3% 7.3% 10.1% 6.5% 11.3% RoW 11.9% 11.8% 12.6% 12.0% 11.8% 11.8% 0.4% 0.6% 1.7% * 2000-2003 Euro area (including Italy) Source: Company data Table 2 - BENETTON GROUP: Channel mix % on total sales 2000 2001 2002 2003 2004 2005 2006 2007 2008 Retail na na na na 15.6% 19.3% 22.1% 21.1% 22.0% Wholesale na na na na 84.4% 80.7% 77.9% 78.9% 78.0% Source: Company data Table 3 - BENETTON GROUP: Store network N. stores 2000 2001 2002 2003 2004 2005 2006 2007 2008 DOS (Retail stores) na 80 87 121 204 543 618 689 827 Franchised stores na 5,320 5,276 5,128 4,856 4,703 4,846 5,118 5,395 Total na 5,400 5,363 5,249 5,060 5,246 5,464 5,807 6,222 Source: Company data Table 4 - BENETTON GROUP: Product diversification % on total sales 2000 2001 2002 2003 2004 2005 2006 2007 2008 Apparel (third parties) 91.4% 91.2% 91.8% 91.5% 92.0% 92.3% 92.7% 93.8% 95.6% Textile (third parties) 6.6% 6.8% 6.2% 6.5% 6.2% 5.6% 5.0% 4.2% 4.4% Source: Company data FY08 in line with targets FY08 sales grew +4% YoY, in line with the Group's targets, despite the deterioration in the international economic environment, driven by the enrichment of the offer with higher-value product categories and an increase in sales volumes, together with an acceleration of growth in strategic countries. The gross operating profit increased +180bps YoY thanks to higher volumes in apparel and an improvement in efficiency, while the EBIT margin was roughly stable YoY due to higher SGA costs (also reflecting the establishment of direct control over the business particularly in the US market), but net income reported a growth of +7% YoY, despite higher financial costs related to the higher debt (€689m, +45% YoY). Gruppo Banca Leonardo Italian Equity Research NOT FOR DISTRIBUTION IN CANADA, AUSTRALIA OR JAPAN 33 Italian Luxury & Consumer Goods June 23 2009 Ongoing strategy In 2009 the Group adopted a reorganization plan, to face the new macroeconomic scenario, which worsened in 4Q08 showing pressure on margins and negative retail like-for-like sales performance. The reorganization plan should bring €50-70m in structural savings in 12 months base to be partially reinvested in the commercial business.