Luxottica (Borsa Italiana: LUX) NOTE: ADRs also trade under “LUX” on the NYSE priced in U.S. Dollars Gross EBITDA EBIT 71% 71% 71% 70% 70% 69% 70% 68% 68% 68% 68% 66% 66% 66% 65% 66% 65% 65% 24% 23% 24% 21% 22% 21% 20% 20% 20% 20% 19% 19% 18% 18% 19% 18% 17% 17% 16% 17% 17% 16% 16% 16% 16% 15% 15% 15% 15% 14% 14% 14% 13% 13% TABLE OF CONTENTS DURABILITY 2 SINGULAR DILIGENCE MOAT 4 Geoff Gannon, Writer Quan Hoang, Analyst QUALITY 6 Tobias Carlisle, Publisher CAPITAL ALLOCATION 8 VALUE 11 Luxottica (Borsa Italiana: LUX) is a Global Maker and GROWTH 13 Seller of Sunglasses and Eyeglasses MISJUDGMENT 15 FUTURE 17 APPRAISAL 20 OVERVIEW NOTES 22 Luxottica is a vertically integrated eyewear company. Although founded in Italy, it now gets much of its sales and profits from the United States. And although founded as a part maker for prescription eyeglass frames (optical glasses) it now gets much of its sales and profits from sunglasses. The company can’t really be referred to as either a producer or a retailer. Luxottica is truly vertically integrated. Last year, 59% of the company’s sales came from its own stores. And much of the products sold in its own stores is produced by Luxottica itself. The two constants in Luxottica’s history have been the focus on eyewear and the leadership of Leonardo Del Vecchio. Luxottica gets 59% of its revenue from sales made in its own stores. Del Vecchio moved to Agordo, Italy in by distributing its own frames. The company signed its first fashion license deal in 1961. The local authorities were giving 1988. It started putting out Georgio Armani branded frames. out land to entrepreneurs in the hopes In the early 1990s, U.S. retail chains were importing a lot of frames from Asia. Del those entrepreneurs would create jobs Vecchio was worried that this trend toward cheap Asian imports would erode the and provide tax revenue. The Italian profitability of his business over time. So, he acquired LensCrafters. In 1994, eyeglass frame making industry was LensCrafters had 650 stores doing $700 million in U.S. sales. Luxottica’s wholesale nearby. So, Del Vecchio set up Luxottica revenue in North America was just $200 million. This was probably about 10% of the as a part supplier to these companies. U.S. frame market. It was a huge deal for Luxottica. The acquisition was synergistic in However, Del Vecchio saw there were the sense that Luxottica replaced competitor’s products sold at LensCrafters with the better profits in selling entire frames company’s own products. In 1995 – the year Luxottica bought LensCrafters – about than there were in just selling the 5% of that chain’s sales came from Luxottica frames. By 1996, it was 43%. In 2002, it parts. In the 1960s, Luxottica was 76%. And today, over 90% of LensCrafters’s sales come from Luxottica products. transitioned from being a parts supplier to being a frame maker. The company Luxottica has made other acquisitions in the U.S. In 1998, it bought Ray Ban from presented its first collection of Bausch & Lomb. Bausch & Lomb was big in eye care rather than fashion. The Ray Ban prescription eyewear in 1971. Luxottica brand was not a good fit with Bausch & Lomb. For example, Bausch & Lomb moved moved into distribution for the same manufacturing of Ray Ban to countries like Mexico and China. Luxottica’s frames are reason it moved into producing its own made in Italy. Frames made in Mexico and China fell apart much faster than frames frames. Del Vecchio felt distributors made in Italy. But Bausch & Lomb was selling Ray Ban through a lot of retailers – were making good profits instead of including drug stores. The price tag was as low as $30. At those prices and sold passing on the savings to customers. through those outlets, Bausch & Lomb couldn’t afford to produce Ray Ban frames to Luxottica could cut out the middle man SINGULAR DILIGENCE 1 the same standards as Luxottica The company owns a retailer (OPSM) with stores in the Pacific: Australia (481 frames. Ray Ban was a better fit for stores), Hong Kong (80 stores), New Zealand (34), Singapore (12), and Malaysia Luxottica than it had been for Ray Ban. (12). It also owns a Latin American retailer with 390 stores spread across Chile, Luxottica completely overhauled the Columbia, Ecuador, and Peru. brand. In fact, Luxottica stopped selling Ray Ban for 18 months. It moved the Luxottica has the licenses to far more fashion brands than any eyeglass frame production of Ray Bans to Italy. This maker. Licenses include: Prada, Armani, Brooks Brothers, Bulgari, Burberry, Chanel, improved the durability of the frames. Coach, Dolce & Gabbana, Versace, Tiffany, Ralph Lauren, Michael Kors, Tory Burch, And then Luxottica started raising the and DKNY. price of Ray Ban sunglasses Luxottica does not have a big share of the total unit volume market for eyeglasses. dramatically. In 1999, a pair of Ray Bans However, it does have a big share of the premium eyewear market. Luxottica could be bought for as low as $30 in a probably has about 80% of the U.S. market for premium eyewear. drug store. By 2000, Luxottica had taken the brand out of drug stores and Here’s the revenue mix. Sunglasses are about 56% of sales and optical eyeglasses raised the price to $80 a pair. In 2002, are 44%. Company owned brands are about 68% of sales while licensed brands are it was $90 a pair. By 2009, it was $130. 32%. Geographically, the company skews very American and also more toward the Today, Ray Bans sell for about $150. developed world. North America is 58% of sales, Europe is 18%, Asia is 13%, and Ray Ban is a huge brand for Luxottica. Latin America is 6%. So, the U.S. and Europe are more than 75% of total sales. Today, the brand generates about 27% of Luxottica’s companywide sales. Quan and I consider Luxottica’s four most important assets to be the sunglass brands Ray-Ban ($2.6 billion in sales), and Oakley ($1.1 billion in sales) plus the Part of the reason Ray Ban has been so retail chains LensCrafters (over $2 billion in sales), and Sunglass Hut (also over $2 successful is Sunglass Hut. Luxottica billion). bought Sunglass Hut in 2001. Sunglass Hut was already the dominant seller of DURABILITY premium sunglasses in the U.S. when Luxottica Depends Most on Ray-Ban, Oakley, Sunglass Hut, and LensCrafters Luxottica bought it. Estimates are that Sunglass Hut had more than 50% of the The biggest risk to the durability of Luxottica as a company is a decline in popularity total market for premium sunglasses. of the Ray-Ban or Oakley brands. Ray-Ban accounts for 27% of Luxottica’s sales. Premium sunglasses are a small Oakley accounts for 11% of Luxottica’s sales. The company’s single biggest licensed percent of the total unit market for brand is Prada. The non-renewal of the Prada license would cost Luxottica just 4% sunglasses in the U.S. However, they of its total sales. The combined sales of all of Luxottica’s licensed brands adds up to are a large percent of the total dollar a total of 32% of the company’s sales. So, licensed brands are a big part of market for sunglasses in the U.S. Luxottica’s business. But, no single licensed brand is especially important. Even Luxottica owns Sunglass Hut which is Prada at 4% of sales is really too small for us to spend time talking about. So, let’s the biggest retailer of premium focus on Ray-Ban and Oakley. sunglasses in the U.S. It also owns the Ray-Ban and Oakley are an especially big part of Luxottica’s business in part two biggest premium sunglass brands because Luxottica owns Sunglass Hut. Companywide sales figures for Luxottica in the U.S.: Ray Ban and Oakley. include both retail and wholesale revenue. So, for example, if Luxottica sales a pair Luxottica bought Oakley in 2007. of Prada branded frames to an independent eye doctor the company books that Oakley is the second biggest sunglasses wholesale revenue as a sale. Imagine the eye doctor’s office – which will sell the brand in the world behind Ray Ban. frames together with lenses to its patients – pays $80 for those glasses. Now, Both are American companies imagine the patient will actually pay $120 for the finished frames. In this case, originally. But both are owned by Luxottica records only $80 as revenue. That’s all Luxottica makes even though the Luxottica and get plenty of sales frames will eventually sell for $120. Now, let’s imagine a pair of Ray-Ban sunglasses through Luxottica’s Sunglass Hut stores. that sell for the exact same $120. If those Ray-Bans are sold through a Sunglass Hut Luxottica also bought Cole National in store – which Luxottica owns – then Luxottica will record the full $120 retail price of 2004. This gave the company Pearle the sunglasses in its revenue. At first, it might seem like this skews the sales figures Vision stores as well as Sears Optical, to make them less useful. In both cases, the part Luxottica supplied retails for the Target Optical, and other “store within same amount. But, in the Ray-Ban example, Luxottica recorded more in sales. Did it a store” locations. Luxottica’s retail really make more in profit? Almost certainly. The gross profit margin in optical presence is strongest in the U.S.