Gadfly's Banjo: Kate Spade Shouldn't Sell Itself

Shares of Kate Spade & Co KATE soared higher on Wednesday after the designer and marketer of high-end accessories and apparel was said to be exploring strategic alternatives, including a sale of itself.

On Thursday, a Bloomberg report suggested that the company will begin the sales process next month, and it has already attracted the attention of six suitors. Despite the company appearing to be committed to selling itself, Gadfly's Shelly Banjo thinks this is the wrong move.

Strategically Wrong

Banjo's Suggestion

For starters, Kate Spade has a poor track record of operating within a conglomerate, a reference to when the brand was one of three divisions operated by Liz Claiborne Inc — the others being Juicy Couture and Lucky Brand Jeans.

Meanwhile, Kate Spade's stock is expensive relative to its peer at a valuation of 21-times forward earnings. While this may be notably below the company's two-year high of 55, it still represents a premium compared to Michael Kors Holdings Ltd KORS at 9.6, Fossil Group Inc FOSL at 13.7 and Coach Inc COH at 15.5.

If Coach were to acquire Kate Spade at a 20 percent premium, then the transaction would only be accretive to Coach if 70 percent of the transaction involved cash. The problem here is that Kate Spade is valued at $2.3 billion and Coach has just $1.5 billion in cash; securing financing would disrupt its already leveraged balance sheet.

Meanwhile, European powerhouses that certainly have enough cash to buy Kate Spade such as LVMH Moet Hennessy Louis Vuitton SE(ADR) OTC: LVMUY) might not see the rational in doing so, since it is in the middle of moving away from the more "affordable" luxury market.

Given the fact that buyers for Kate Spade may be scarce, the company should consider instead partnering with a group of investors and go private. Doing so would allow the management team to better focus on marketing, pricing and outlet strategies without the scrutiny of outside investors, including agitated activist investors.