Victoria’s Secret & Co

Moat: 2/5

Understandability: 2/5

Balance Sheet Health: 3/5

Victoria’s Secret & Co. is a specialty retailer offering lingerie, intimates, sleepwear, beauty products, and accessories through stores and online channels worldwide, focused on creating value for women, and a strong digital platform.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Victoria’s Secret operates through three main segments: Victoria’s Secret (lingerie and beauty), PINK (apparel and accessories targeting younger consumers), and Adore Me (a digitally-native intimates brand).

Business Overview

Victoria’s Secret & Co. (VSCO) is a global specialty retailer known for its lingerie, intimate apparel, beauty products, and accessories. The company operates across multiple channels, including its own stores, online platforms, and through strategic partnerships. The business is structured around its iconic Victoria’s Secret brand, targeting a broad demographic with a focus on modern women; PINK, its apparel and accessories brand designed for younger consumers; and Adore Me, a digitally native intimates brand focusing on e-commerce. VSCO emphasizes brand recognition, quality, and an increasingly integrated digital shopping experience, with a focus on innovation and inclusivity.

Revenue Distribution

  • Stores: The core of VSCO’s operations, these physical locations allow customers to experience their products firsthand.
  • Digital: Includes online sales through the Victoria’s Secret and PINK websites, and other digital partnerships. This channel has become increasingly important, reflecting the shift toward e-commerce.
  • International: VSCO has a substantial international presence, including joint venture and partnership operations outside of the US market.
  • E-commerce Growth: Online sales continue to grow in the apparel and beauty industry, pushing retailers to invest in their digital presence. This requires strong online platforms and a seamless customer experience.
  • Inclusivity and Diversity: Consumers increasingly value brands that celebrate diversity and inclusivity. Brands that are perceived to be exclusive or out of touch with this social change could face backlash.
  • Changing Consumer Preferences: Shifts in preferences towards comfort and sustainability pose challenges to traditional lingerie brands. The demand for athleisure and more body-inclusive designs will shape new product development and sales strategies.
  • Increased Competition: The intimate apparel and beauty market is becoming increasingly competitive. Low-cost competitors and digitally native brands are expanding their operations and gaining market share.
  • Data and Personalization: Data analytics and the use of AI provide opportunities to improve customer understanding and personalize both marketing and products.

Competitive Landscape

A significant aspect to understanding VSCO’s moat, or rather the lack of one, lies in the competitive landscape. The intimate apparel market is highly fragmented with many different types of players. Here are the key competitive areas:

  1. Other Lingerie Retailers: Competitors with a similar core business model such as ThirdLove, Aerie, AdoreMe and others compete directly with VSCO on quality, product, and customer experience.
  2. Department Stores: Large department stores that have their own lingerie and intimate apparel sections like Nordstrom and Macy’s compete with VSCO on brand recognition and customer preference. These are often larger and with a wider product offerings.
  3. Online Retailers: Pure e-commerce retailers such as Amazon, as well as direct-to-consumer startups, that often can operate with a leaner cost structure and therefore offer products at a lower price than brick-and-mortar stores.
  4. Fast Fashion: Clothing retailers with lower price points such as Shein, H&M, and Forever 21, compete by providing more accessible trends and styles.
  5. New Entrants: Direct-to-consumer startups that leverage technology and a deep understanding of customer preferences, have increasingly been taking market share from legacy retailers.

What Makes Victoria’s Secret & Co. Different

  • Brand Recognition: The Victoria’s Secret brand is one of the most widely recognized names in intimate apparel. It carries both positive connotations and some negative connotations, but their products are nonetheless well known and popular.
  • Large Scale Presence: VSCO has a substantial store network, providing a broad reach in physical markets. While this is also becoming more of a disadvantage because their online capabilities still fall behind.
  • Beauty Product Expansion: The company’s shift into beauty products diversifies its product range, but also provides additional competition.
  • Focus on Inclusivity and Digitization: A recent commitment to more diverse representation in branding, as well as focus on growing their digital capabilities.

Moat Rating: 2 / 5

VSCO has a Narrow moat. Here’s why:

Although VSCO carries strong brand recognition, its profitability and sustainability of its “advantage” is being severely challenged by changes in consumer preferences, increased competition, and structural shift towards e-commerce.

  • Brand: Strong brand recognition does give the company some protection against smaller competitors. However, this brand is under severe strain and their sales have been declining for years. Consumers are moving towards comfortability, diversity, and inclusivity, traits not generally associated with VSCO. Therefore, brand value is not enough to give a sustained advantage.
  • Cost Advantages: The company does not appear to have any sustainable cost advantage as, unlike many other legacy retailers, they source most production outside their home regions. Their supply chain is also extremely exposed to macroeconomic factors, including increase in shipping cost and geopolitical instability. Their supply costs are not materially less than its competition
  • Switching costs: In its pure core business of intimate apparel, the consumer is not likely to exhibit high switching cost. The ease of trying out other brands is high for the consumer and therefore VSCO is very vulnerable to customer churn to other products.
  • Network Effect: They have no significant network effects.
  • Intangible assets: Although VSCO has trademarks and IP around its products, there is nothing inherently difficult for competitors to copy or build similar products or designs, with the exception of maybe patents related to some of their technology advancements.

Risks to the Moat and Business Resilience

A few key risks to Victoria’s Secret & Co., include:

  • Declining brand strength: As consumers move towards more inclusive and comfortable brands, Victoria’s Secret’s previous brand image might create consumer aversion towards their product line.
  • Changing consumer preferences: Shifts in consumer preferences toward sustainability, comfort-based products, and body-inclusive sizing, coupled with the growth of similar competitors, could erode margins.
  • Intense Competition: The lingerie and beauty market is highly competitive and VSCO faces constant pressure to innovate to keep up with consumer trends. New entrants may also take market share with lower cost structure.
  • High reliance on physical retail : Their high reliance on physical retail in a rapidly digitizing world is a big risk factor. Even though they are trying to transition, they have a long way to go and it puts them at a disadvantage against digital competitors.
  • Supply Chain and Inventory: Disruption in the supply chain and inventory management, has hurt performance in the past, and remains a threat.
  • Economic Down turns: Any economic slowdown would affect consumer confidence and spending on discretionary items that will hurt VSCO’s sales.

Despite these risks, the company does exhibit some resilience. VSCO has been actively restructuring its business, including streamlining operations, cutting costs, and shifting towards a more inclusive brand message. They have also invested into their digital platform and are emphasizing direct-to-consumer sales. Their efforts in transitioning to a data-driven company, might also be pivotal. The company has a solid base of operating cash flow that if they improve their operations further, will lead to greater stability.

Financials

Income Statement Analysis

  • Declining Revenue: Victoria’s Secret’s sales have shown a noticeable decline over the past few years. This decline reflects the loss of market share and the inability to fully recover from prior market conditions. However, their latest earnings are suggesting that those declines may be starting to slow down or reverse.
  • Inconsistent Margins: Both gross and net margins have seen some instability over the past years. Operating profits have also been very up-and-down. Although this is not uncommon for a cyclical business, their margin volatility has been more pronounced than others in their industry.
  • Profitability: Due to recent cost control initiatives, the gross margin has returned to ~38% levels as of latest reports, however, their net margins have been fluctuating between -1.5% and 2%. This is largely due to high costs associated with restructuring efforts and inventory write-offs.
  • Positive Earnings Growth: There seems to be good progress on their transition plan as their adjusted earnings and profits have been very positive in their latest quarterly reports, suggesting that they are improving their business efficiency and bottom line.

Balance Sheet Analysis

  • Liquidity: The company’s liquidity position is relatively stable but could be better. A cash-to-current liability ratio near 1.0 is reasonable, but less than 1 may pose some short-term liquidity constraints. Inventory has also been rather high, which reduces liquidity.
  • Leverage: The debt levels for the company are slightly concerning. Debt has been increasing, with the total debt of the company being more than 4.6B, and therefore leverage is not in their favor.
  • Debt Structure: They have a large mix of both long-term and short-term debt. All debt should be carefully considered, including rates, risk, and maturities.

Cash Flow Statement Analysis

  • Operating Cash Flow (OCF): VSCO’s operating cash flow was very negative throughout 2020, then turned positive in 2021 and has remained quite volatile, however the past year has been very encouraging. Cash flows are extremely volatile, as they are largely reliant on revenue that fluctuates with the economic environment.
  • Free Cash Flow (FCF): Recent cash flows have been very encouraging for the company, as it shows that their restructuring and business improvements are starting to have a positive impact on their ability to create cash flow.
  • Capital Expenditure: Capital expenditures remain a key part of their spending, and the company should continue to be mindful about returns on their capital investments.

Management’s View

  • Transformation Efforts: The management has outlined an extensive plan to transform the company to be more competitive in today’s retail environment. This includes increasing their digital capabilities, improving their offerings and focusing on more inclusive branding and marketing.
  • Cost Control: There is a strong effort on reducing costs and streamlining operations, this has been a focus of the management in their earnings releases and statements and shows they are very active and serious about improving their cost base.
  • Increased Digital Capabilities: Management has continuously stated its commitment towards growing digital channels. They have been developing mobile apps, improved websites, and are looking to integrate their in-store and online experiences.
  • Focus on Long Term Growth: The management has been vocal about focusing on long term revenue and shareholder value, they claim to have made some progress on this front, and that they are continuing these transitions.

Understandability Rating: 2 / 5

The business model of Victoria’s Secret is reasonably simple to understand- a retailer that designs and sells lingerie, beauty products, apparel and accessories.

However, there are few reasons why this company is not immediately easy to understand:

  • Complex Brand Dynamics: There is a lot of complication in the brand structure itself, with having 3 core brands, VSCO, PINK, and Adore Me, all with slightly varying consumer targets.
  • Multi-Channel Operations: Juggling between physical retail, digital channels, wholesale, and international ventures can complicate things.
  • Structural Changes: In the midst of a transition period where the competitive landscape is shifting and the company is trying to adapt, it makes the company hard to understand.
  • Macro Economic Factors: The consumer spending environment has a strong impact on their results, and this is hard to fully predict.
  • Numerous Acquisitions: The company has been acquisitive over the years and has acquired many different companies, some with complex strategies. These can be difficult to account for.

Balance Sheet Health Rating: 3 / 5

The balance sheet for Victoria’s Secret & Co. has elements that make it good and also some concerning elements.

  • Positive Points: Relatively stable cash position, and current assets can cover current liabilities.
  • Concerning Points: High debt levels, especially considering the volatility of cash flows. Significant long term debt as well.

Therefore, the business gets a 3 out of 5 in terms of balance sheet strength.