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Published: June 25, 2010
If someone told you two hundred years ago that an inherently
worthless item would be hocked to generations of people, and
that the asking price for this item would be several thousand
dollars per gram, you probably wouldn't believe it. But as an
investor, you'd probably want a piece of it.
Now imagine that same person told you a marketing machine would
be created around this worthless item and it convinced every
woman in the Western world that it was their God-given right to
have this item at least once in their life. I don't know about
you, but I'd want to double down on that investment.
The item? Diamonds, of course.
Believe it or not, diamonds are neither scarce nor precious. It
just happens that when U.K.-based DeBeers began mining in Africa
and buying up the competition, it eventually created a
monopoly
on the sparkling rocks. "Diamonds are a girl's best friend"
isn't just some pithy saying, it was invented by DeBeers. And
the concept of giving a woman a diamond engagement ring?
DeBeers. Deliberately controlling supply so as to take advantage
of demand, driven by these marketing tactics? DeBeers.
Even though DeBeers'
market share today is well short of the 90%
it once controlled, the world still buys into the "Great Diamond
Myth." That, of course, means great opportunity for savvy
investors. Unfortunately, DeBeers is privately held.
There are, however, many public companies that deal in diamonds.
The global brand that everyone recognizes is Tiffany & Co.
(NYSE: TIF). The company's signature blue box makes the
hearts of girlfriends, wives and other significant others go
pitter-pat -- so much so that a diamond purchased in a setting
from Tiffany will cost 30%-60% more than buying one in your
local diamond district and having it set by Joe Jeweler. Maybe
that's why Tiffany enjoys net margins of about 10.8%, which is
stronger than much of the retail sector.
Jewelry sales are absolutely sensitive to
the economy. However, there is a difference between a retail
business dealing in diamonds and one that sells trendy clothing.
Both are discretionary spends, but diamonds are always in style.
Clothing trends come and go. Investors looking for stability
after a recession are better off with diamonds. In addition, as
a luxury item, sales are more likely to leap in larger bounds
than other types of retail.
Indeed, last month Tiffany reported first quarter earnings of
$0.48 a share, up from $0.20 in the same quarter last year. The
big surprise, however, was a whopping +15% increase in
same-store sales. Most stores are happy to have upper-single
digit same store sales growth in good times.
The recession has also given Tiffany an opportunity to prepare a
new line of products, such as leather wallets. By keeping the
pricing of these items on the low end (well, for Tiffany any
way), stores can still lure in the casual shopper who still may
spring for a $100 wallet or another cheaper Tiffany product.
The other advantage of a global brand like Tiffany & Co. is that
the company was well-positioned financially to survive the
recession. The company had $250 million in cash against $343
million in debt at the end of 2007, when things started to get
really bad. In the latest quarter, the company actually had more
cash than debt -- $210 million more.
Action to Take --> Tiffany &
Co. trades for only 16 times this year's earnings, yet earnings
are expected to grow +30% this year and +14% next year. With a
global brand, a product that never goes out of style, solid
financials and improving sales, I think Tiffany is significantly
undervalued based on this year's earnings alone. It's a buy.
-- Frederick Steier
Contributor
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