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Michael Kors says margins to shrink as it expands in Europe

By Sruthi Ramakrishnan

(Reuters) - Fast-growing Michael Kors Holdings Ltd , known for its trendy handbags and watches, said it expects margins to shrink for the year as it invests more to open stores in Europe and increases the number of shops it has in department stores.

Michael Kors' shares fell as much as 8 percent on Monday, making the stock the biggest loser on the S&P 500 <.SPX>. The stock rose as much as 12 percent before the opening bell after the company reported another quarter of strong revenue growth.

The company, founded by fashion designer and former "Project Runway" TV show judge Michael Kors, has posted sales growth of 40 percent or more in almost every quarter since going public in December 2011, overtaking its closest rival Coach Inc in market share.

Now it is having to spend heavily to maintain that momentum.

"We never believed that a 30 percent operating margin was a sustainable margin for the company," Chief Executive John Idol said on a conference call.

The company said it expects operating margins to decline by about 200 basis points in the current quarter. The operating margin was about 31 percent in the first quarter ended June 28, according to a Reuters calculation.

An increase in inventories and markdowns, as well as significant investment spending, could moderate earnings growth and warrant a more conservative trading multiple for the stock, Sterne Agee & Co analyst Ike Boruchow wrote in a note.

Michael Kors' stock trades at 19.2 times forward earnings, above the industry median of 17.9. Coach trades at the same multiple as the industry.

The high-flying stock has fallen 9 percent since May, when the company first warned of gross margins getting hit by its European expansion.

RISING INVENTORY

The company, started as a luxury sportswear house in 1981, has grown rapidly as its core customers - women between the age of 20 and 35 - snap up its trendy accessories.

The company's handbags sell for $200 to $3,000, with most selling for $500-$700, while its outsized watches are priced between $150 and $550.

Apart from its own standalone stores, the company sells in department stores such as Macy's and Bloomingdale's.

The company said on Monday it would set up more retail shops located within these stores to replace wholesale arrangements.

Revenue jumped 43 percent to $919.2 million in the first quarter, driven by strong sales of handbags, watches and footwear in North America and Europe.

Revenue from North America rose 30 percent to $718.9 million in the first quarter.

Same-store sales increased 24.2 percent, with growth of 18.7 percent in North America. Sales in Europe more than doubled to $185.5 million and now make up 20 percent of total sales.

The company cleared excess inventory through discounting in July and is "back on track," Idol said on the call.

Michael Kors forecast second-quarter earnings of 85 cents-87 cents per share on revenue of $950 million-$960 million. Analysts on average expected 89 cents per share on revenue of $959.5 million, according to Thomson Reuters I/B/E/S.

Net income rose to $187.7 million, or 91 cents per share, from $124.9 million, or 61 cents per share, a year earlier.

Analysts on average had expected earnings of 81 cents per share on revenue of $851.7 million, according to Thomson Reuters I/B/E/S.

Michael Kors' shares were down 6.6 percent at $76.43 in afternoon trading.

(Editing by Saumyadeb Chakrabarty)

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