No. of Recommendations: 4
The Swedish watchmaker was discussed on a podcast this week. I read the annual report today and took some notes on the podcast. Below are some notes polished by Gemini, which is a little annoying but maybe better than my typos and poor English. In short they had an awful 2024 financial performance and are currently trading at 0.5 times adjusted book and one times inventory! They are making money but less than before. Great brands and watch makers but have allowed competitors to out manoeuvre them on the marketing front recently according to activists investor (have not used influencers enough). Plus China is a big and depressed market for them. Management control 44%. I haven’t bought it and am still pondering. Let me know if you have anything to add.
I like that it’s so cheap. There is a credible turnaround story for their quality products and brands. But that might not happen and it could languish for years. Can’t decide if it’s a cigar butt that will not give a final puff due to inability to control the company, or if it’s a high quality watch manufacturer with 300 year old brands with the market for mechanical watches growing and they have temporarily stumbled and it’s a 5x waiting to happen. If only it was that easy.
Now for the notes polished by AI.
What does the company do?
The Swatch Group owns a diverse portfolio of watch and jewelry brands, spanning various market segments. Here is a list of the brands under the Swatch Group umbrella:
Luxury and Prestige Range:
* Blancpain
* Breguet
* Harry Winston
* Glashütte Original
* Jaquet Droz
* Léon Hatot
* Omega
High to Middle Range:
* Longines
* Rado
* Union Glashütte
* Tissot
* Hamilton
* Mido
* Certina
* Balmain
Basic Range:
* Swatch
* Flik Flak
* Calvin Klein (CK Watch & Jewelry)
It's worth noting that the Swatch Group also owns movement and component manufacturers like ETA SA, which supplies movements to many other brands outside the group, and electronic systems companies like EM Microelectronic and Renata. Additionally, they operate the multi-brand retail chains Tourbillon and Hour Passion.
Key Highlights:
Challenging 2024 Financials: Swatch Group reported a significant downturn in 2024, with turnover down 15% to CHF 7,735m, EBIT plummeting by 74%, and profit after tax decreasing by 75% to CHF 219m. Management attributed this to a difficult global economic climate and weak Chinese consumer spending. Net cash outflow of CHF 519m, after dividends and capital expenditure, a trend similar to 2023.
Strategic Pillars Remain Intact: Despite the financial headwinds, Swatch Group's core strategy emphasizes its workforce, Swiss manufacturing heritage, the creation of enduring high-quality products, continuous innovation (supported by a strong patent portfolio), investment in future talent, and a commitment to sustainable development.
Valuation Reflects Weak Performance: The current market capitalization stands at CHF 7.8 billion. The stock is trading at a low 0.64x book value and a high 36x 2024 earnings (or 9x 2023 earnings), suggesting the market has significantly marked down the company's prospects. Notably, inventory alone stands at CHF 7.64 billion, close to the entire market cap.
Activist Investor Signals Potential for Change: Steven Woods, an activist hedge fund manager with a position in Swatch, has publicly highlighted significant concerns regarding corporate governance (family control with 43.3% voting rights) and marketing execution. He believes the company is technically strong with valuable brands but lacks marketing sophistication, leading to lost market share in the high-end segment.
Untapped Brand Value: Woods points to the potential undervaluation of key assets like Harry Winston and Breguet (with an implied valuation from an alleged LVMH offer suggesting significant upside). He argues that these brands, particularly Breguet, represent a disproportionately small fraction of current revenue compared to their potential value.
Emerging Trends Offer Hope: Despite challenges in the smartwatch market (with Apple Watch sales reportedly declining), there's evidence of a resurgence in interest in mechanical watches, particularly among Gen Z consumers who are reportedly four times more likely to purchase them. This trend aligns with Swatch Group's focus on high-quality, long-lasting mechanical timepieces.
Management Outlook and Internal Dynamics: Management anticipates a substantial improvement in sales, operating profit, and cash flow in 2025.
The CEO has previously expressed a desire to take the company private, citing a focus on long-term value creation over short-term stock market pressures. Attempts by external parties to influence management have reportedly been unsuccessful.
Investment Considerations:
Potential Upsides:
Strong Brand Portfolio and Manufacturing Prowess: Swatch Group possesses a stable of iconic and historically significant brands, coupled with deep vertical integration and high-quality Swiss manufacturing capabilities.
Latent Brand Value: Significant potential exists to unlock value within brands like Harry Winston and Breguet through strategic management and marketing.
Favorable Long-Term Trends: The apparent resurgence of interest in mechanical watches, particularly among younger generations, could provide a tailwind for the company's core product offering.
Margin of Safety: Trading at a significant discount to book value, particularly considering the value of inventory and tangible assets, may offer a margin of safety for long-term investors.
Potential for Activist Intervention: The presence of an activist investor actively seeking board representation could be a catalyst for change in governance and operational strategy.
Key Risks and Challenges:
Poor Governance and Execution: Family control and a perceived lack of marketing sophistication appear to be significant impediments to realizing the company's full potential.
Weak Recent Financial Performance: The substantial decline in profitability and cash flow in 2024 raises concerns about the company's ability to navigate current market conditions.
China Market Volatility: Dependence on the Chinese market exposes the company to regional economic fluctuations and consumer sentiment.
Resistance to Change: Management's apparent reluctance to external influence and the CEO's privatization aspirations could hinder necessary strategic adjustments.
Erosion of Balance Sheet: Continued negative cash flow could gradually erode the company's strong balance sheet.
Overall Assessment:
Swatch Group presents a complex investment case. While its strong brands, manufacturing capabilities, and potential tailwinds in the mechanical watch market offer compelling long-term value, significant concerns remain regarding its governance, marketing execution, and recent financial performance. The deep discount to book value may provide a buffer, but a turnaround likely hinges on either a shift in management's approach or successful intervention from activist shareholders. This situation warrants careful monitoring for signs of strategic change and improved execution.
