Coach is getting shoppers to pay more for its handbags

Coach 1941 Varsity patch rogue bag in pebble leather.
Source: Coach

Shoppers are ponying up big bucks for Coach's handbags, helping to drive revenue growth at the brand even as it pulls back on distribution.

On a call with analysts detailing its fiscal first-quarter results, Coach executives said handbags priced higher than $400 accounted for more than half of its sales in that category. That's up from 30 percent just one year ago.

The uplift in pricey handbag sales comes as Coach is attempting to move its brand upmarket through its higher-end 1941 collection. The company is also renovating its fleet of stores to evoke a more luxurious feel, and pulling back on the amount of product it sells in the deeply discounted department store space.

These initiatives helped Coach boost its gross margin to 68.9 percent during the quarter, up from 67.6 percent a year ago. Investors sent the company's shares nearly 5 percent higher Tuesday, even as its sales growth slowed.

Wall Street expected trends to slow at Coach, after the brand last quarter said it would lessen its exposure to the troubled department store set. That decision is a key piece of the brand's strategy to dial back on promotions and restore its brand equity.

"Despite this deliberate pullback, we achieved growth across key financials," CEO Victor Luis told investors. In addition to its gross margin improvement, those metrics included 2 percent comparable sales growth in the key North America market, and a double-digit earnings increase.

Coach began removing its product from the wholesale channel during the three months ended Oct. 1, closing 120 of these locations. It plans to shutter another 130 wholesale shops in its third quarter, resulting in a 25 percent reduction overall. This decision contributed to a 30 percent decline in sales at North American department stores but made its sales more profitable.

At the same time, Coach has pulled back on the number of sales it runs on its brand website, causing its digital sales to come in flat. Gross margins at the company's North American outlet stores also moved higher during the quarter; however, this boost was largely the result of lower product costs and higher initial markups, as the stores remained highly promotional.

Coach is working to improve the product mix at these locations, including exclusive collections like its recent Pac-Man collaboration. Management said it remains in the early stages of upgrading these stores to fit with its new design aesthetic. Outlet locations, which account for an estimated 40 percent of the company's revenues, have been a drag on Coach's turnaround efforts and brand equity.

"The major impact that we're seeing in that channel is really from the great level of innovation that [designer Stuart Vevers] and the team are putting into the product," Luis said.

Growth in the overall handbag space has been anemic, with Coach management estimating the North American bag and accessories market was flat or up low-single-digits during the three-month period.

Coach's sales increased 1 percent during the quarter to $1.04 billion, shy of analysts' expectations for $1.07 billion, according to a Thomson Reuters forecast. The company earned 45 cents a share adjusted, up from 41 cents a year ago and in-line with Wall Street's expectations.

"While this first quarter outcome is somewhat soft, it does show that Coach remains on the right path to rebuilding its brand image and enhancing profitability," said Neil Saunders, CEO of Conlumino research firm.