Shareholders of VF Corp would probably like to forget the past six months even happened. The stock dropped 46.7% and now trades at $12.25. This might have investors contemplating their next move.

Is there a buying opportunity in VF Corp, or does it present a risk to your portfolio? Check out our in-depth research report to see what our analysts have to say, it’s free.

Why Do We Think VF Corp Will Underperform?

Even with the cheaper entry price, we're cautious about VF Corp. Here are three reasons why there are better opportunities than VFC and a stock we'd rather own.

1. Declining Constant Currency Revenue, Demand Takes a Hit

In addition to reported revenue, constant currency revenue is a useful data point for analyzing Apparel and Accessories companies. This metric excludes currency movements, which are outside of VF Corp’s control and are not indicative of underlying demand.

Over the last two years, VF Corp’s constant currency revenue averaged 7.1% year-on-year declines. This performance was underwhelming and implies there may be increasing competition or market saturation. It also suggests VF Corp might have to lower prices or invest in product improvements to accelerate growth, factors that can hinder near-term profitability.

2. New Investments Fail to Bear Fruit as ROIC Declines

A company’s ROIC, or return on invested capital, shows how much operating profit it makes compared to the money it has raised (debt and equity).

We like to invest in businesses with high returns, but the trend in a company’s ROIC is what often surprises the market and moves the stock price. Unfortunately, VF Corp’s ROIC has decreased significantly over the last few years. Paired with its already low returns, these declines suggest its profitable growth opportunities are few and far between.

3. High Debt Levels Increase Risk

As long-term investors, the risk we care about most is the permanent loss of capital, which can happen when a company goes bankrupt or raises money from a disadvantaged position. This is separate from short-term stock price volatility, something we are much less bothered by.

VF Corp’s $5.06 billion of debt exceeds the $429.4 million of cash on its balance sheet. Furthermore, its 6× net-debt-to-EBITDA ratio (based on its EBITDA of $815.8 million over the last 12 months) shows the company is overleveraged.

At this level of debt, incremental borrowing becomes increasingly expensive and credit agencies could downgrade the company’s rating if profitability falls. VF Corp could also be backed into a corner if the market turns unexpectedly – a situation we seek to avoid as investors in high-quality companies.

We hope VF Corp can improve its balance sheet and remain cautious until it increases its profitability or pays down its debt.

Final Judgment

VF Corp falls short of our quality standards. Following the recent decline, the stock trades at 11.9× forward P/E (or $12.25 per share). While this valuation is reasonable, we don’t see a big opportunity at the moment. There are better stocks to buy right now. We’d recommend looking at our favorite semiconductor picks and shovels play.

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