Kate Spade Is Now On Citi's 'Focus List': What It Means

In a report published Tuesday, Citi analyst Kate McShane maintained a Buy rating and price target of $33 on Kate Spade & Co KATE. The company was also added to Citi's Focus list and ranked as the Top 2H Pick among the A/F stocks.

The company's Q2 results demonstrate that demand continues to be strong despite Kate Spade's promotional pullback, and that the company is not witnessing any slowness in the market.

"We believe KATE has strong comp momentum, productivity upside, significant margin expansion potential, and has been able to successfully pull back on promotions," McShane stated.

The company recent reported 10 percent comp, which was meaningfully higher than expected, going into Q2, despite the promotion-related pullback. In addition, the management stated that Kate Spade had not witnessed any slowing down in the handbag market, unlike other handbag vendors. This drove gross margin expansion of over 300 bps during the quarter.

Also, the management raised its comp guidance for 2H, despite its sales initiatives. The analyst believes that the guidance could prove to be conservative, given the momentum from licensing, which is expected to drive continued EBITDA margin expansion in 2016 and beyond.

Kate Spade expects EBITDA margin of 18-20 percent by 206, including corporate overheads.

"We estimate that key drivers of margin expansion are licensing, the leveraging of costs, int'l expansion & wholesale growth opportunities. We expect that the licensing component will be the largest contributor," McShane added, while mentioning that the company had recently arranged several licensing partnership that had the potential to yield $80 million-$85 million or be about 30 percent accretive to the 2016 EBITDA.