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North America Equity Research

07 February 2012

Tiffany & Co
Cutting Estimates; Putting Thoughts Behind an Americas and Asia-Pac Deceleration
Following a below-plan holiday selling season we are substantially reducing estimates on Tiffany and we see continued risk to Street estimates ahead of the March 20th Q4 report when management will guide full-year EPS (we are now at $3.80 vs. Street $3.95). Whats more discouraging is TIF appears to be a standout right now as we havent heard any other high-end retailer point to any type of slowdown to date of this magnitude. Likewise our price target comes down to $60 (from $70). While TIF remains one of the more compelling long-term stories in our universe and one of the truly great iconic brands in retail, we would avoid shares in the near term and wait for a better entry point in the sub-$60 level. Americas business slows, we now expect negative 1H comps. After posting comp increases of 17%, 23%, and 15% through the first three quarters of the year, holiday comps increased just 2% this year. Weakness that began with the Northeast region of the US could be spreading to other areas. We believe large drivers of the NE slowdown and broader impact were 1) the stock market (or wealth effect which has a 90% correlation to US comps) and 2) Wall Street bonuses (which the NY Comptroller estimates fell 30-40% this year) and layoffs. Given more difficult compares looming and high-end headwind (Q1 will be the first time the SPX is down y/y since Q2:09), we now assume comps go negative beginning in Q1. The companys Valentines Day results will likely be very telling and could impact how the company approaches its first take on officially guiding 2012. (Last months Holiday results used the word solid in reference to how they were thinking about 2012 EPS growthour take was solid meant somewhere between 5% and 10%.) From a product mix perspective, the aspirational silver jewelry business (which carries the highest gross margins) continues to be the weakest category, which could say something about either the real mindset of the middle-class consumer or about how fragmented and promotional the category continues to bewhile TIF doesnt partake in promotions.

Neutral
TIF, TIF US Price: $64.64

Price Target: $60.00

Previous: $70.00

Retailing Specialty Brian J. Tunick

AC

(1-212) 622-6449 [email protected]

Ike Boruchow, Jr.

(1-212) 622-9758 [email protected] J.P. Morgan Securities LLC
Price Performance
80 $ 70 60 50
Feb-11 May-11 Aug-11 Nov-11 Feb-12

TIF share price ($) S&P500 (rebased)

Abs Rel

YTD -2.8% -8.3%

1m -3.4% -8.6%

3m -17.0% -23.8%

12m 3.6% 1.5%

Tiffany & Co (TIF;TIF US) FYE Jan EPS (Operating) ($) Q1 (Apr) Q2 (Jul) Q3 (Oct) Q4 (Jan) FY Bloomberg EPS FY ($) P/E (Operating) FY

2010A 0.48 0.55 0.46 1.44 2.93 2.09 22.1

2011E

(Prev)

2011E

(Curr)

2012E

(Prev)

2012E

(Curr)

0.67A 0.86A 0.70A 1.57 3.78 17.1

0.67A 0.86A 0.70A 1.42 3.64 2.87 17.8

4.20 15.4

0.68 0.82 0.72 1.58 3.80 3.65 17.0

Company Data Price ($) Date Of Price 52-week Range ($) Mkt Cap ($ bn) Fiscal Year End Shares O/S (mn) Price Target ($) Price Target End Date

64.64 07 Feb 12 84.49 - 54.58 8.12 Jan 126 60.00 31 Dec 12

Source: Company data, Bloomberg, J.P. Morgan estimates. 'Bloomberg' above denotes Bloomberg consensus estimates.

See page 6 for analyst certification and important disclosures.

J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. www.morganmarkets.com

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Asia-Pacific misses lofty projectionsseeing cracks in the region. A big part of the TIF story is clearly expansion into Asia, and more specifically China. While Asia Pac fell below plans for holiday it was still among the best-performing regions. That said, the 12% holiday comp for the region is a material deceleration from 35-40% comps TIF was generating the past six months. Several data points show that directionally we may have hit an inflection in high-end spending in China: 1) The Chairman of HKs Retail Management Association (RMA) said that sales of jewelry and valuable watches during CNY were quite disappointing, 2) Richemont and Ferragamo both saw decelerating sales growth in Asia (exJapan) last reporting period, and 3) Swatch recently stated that they saw a sharp deceleration for CNY at Omega directly operated stores (and that some competitors actually saw declines). A deeper dive into gross margins. In our last report (Sept 9th: Thinking Outside the Blue Box) we attempted to break apart TIFs COGSseparating the fixed-cost portion of it from the pure product margins, illustrating that while GMs were up in 1H pure product margins appeared to be falling 70-80bps due to inflation. Since then we learned that Q3 and Q4 GMs are under heavy pressure as price increases have not been offsetting cost pressures all while deceleration in top-line trends is leading to less leverage (or deleverage on the fixed-cost portion of COGS). This continues to be a primary concern on our end for 2012 as 1) inflationary pressures will be more pronounced in 2012 vs. 2011 (cost is on a 12-14 month lag); 2) comps are decelerating (less opportunity to offset inflation through leverage)also, if comps turn negative it should become incrementally more difficult to increase prices, which could keep margins under pressure for the next few quarters at a minimum; and 3) the negative mix shift as the high-margin silver jewelry business continues to lag the other categories. SG&A: Weighing cuts and investment. Given the material deceleration in trends through Nov/Dec we believe many investors are bracing for a soft sales performance in 2012. One thing that gives us some confidence that TIF could avoid a hard landing is their proven ability to cut costs. Back in 2008, once comps turned negative the company began cutting expenses the very next quarter. Unfortunately, in the near term the cost cuts could be slightly tougher to come by as 2012 marks the 175th anniversary of Tiffany and the advertising spend planned may not be deferred and we also expect the company to continue on its annual 6-8% square footage growth plans. Big cut to numbers, see risk to Street numbers. We are cutting our Q4/2011/2012 EPS estimates to $1.42/$3.64/$3.80 (from $1.57$3.78//$4.20), while our PT is also cut to $60 (from $70) based on 15-16x our downwardly revised 2012 EPS estimate. That would put it at a 15-20% discount to the global luxury basket against which we benchmark TIF (Burberry, Fossil, LVMH, Ralph Lauren, Richemont, Swatch, and Coach) given that TIFs slowdown seems to be a lone standout to peers. Since cutting Q4 guidance, TIF shares have actually gained 8%gaining back some of the 17% decline in shares in the 3 months before, so the bar had definitely been coming down on the back of the companys more tempered view of the US and Europe back in late November on their Q3 call. While one of the great iconic brands in retail today and a great long-term story, the near-term risk seems too great at todays price to get involved here, in our view.

This document is being provided for the exclusive use of JEFFREY CHIU at WINNINGTON CAPITAL LTD

Brian J. Tunick (1-212) 622-6449 [email protected]

North America Equity Research 07 February 2012

Investment Thesis
Tiffany & Co. (TIF)
Neutral

Tiffany represents a company that carries a global growth story that is unparalleled among other US specialty retailers. Ongoing strength in Asia ex-Japan and Europe made 2010 the first year in company history that international sales exceeded domestic salesindicating that Tiffany is a true global player. Longer term, we expect TIF to further expand its global presence driven by share gains and increased brand awareness. Management plans to eventually double its European store base and has significant opportunity in Asia Pacific (ex-Japan) where the company believes it could grow its 13 stores in mainland China to 25-30 over the next few years. The Greater China region currently generates ~$275 million and mainland China generated $55 million in annual revenues for the company as of 2010. The company is in a tougher position heading into 2012, as a weak holiday indicated a material deceleration across the globe (excluding Japan). After posting comp increases of 17%, 23%, and 15% through the first three quarters of the year, holiday comps increased just 2% this year. Weakness that began with the Northeast region of the US could be spreading to other areas. Likewise, the Asia segment also saw a big slowdown, as the 12% holiday comp for the region is a material deceleration from 35-40% comps TIF was generating the past six months. Several data points show that directionally we may have hit an inflection in high-end spending in China. And lastly Europe comps have now turned negative as well (weakness in the UK overshadowing Continental Europe). Unlike the majority of its high-end jewelry peers, TIF is 60% vertically integrated and actually has pricing power. Relative to other retailers in our coverage, TIF has historically been able to pass along high input costs given lower purchase frequency and pricing knowledge. We believe the company has taken prices up several times over the past 12-18 months; however GMs should be down for the next several quarters due to a 15-25% cost increase hitting the P&L (although prices are beginning to moderate). Longer term, 10-12% annual sales growth (MSD comps and footage) and 20-40bps of margin expansion should drive mid-teens bottom-line growth for the next several years as TIF possess one of the best growth profiles in retail todaybut our outlook for the next few quarters is much less shiny.

Earnings Outlook
2011
For 2011, we assume 11% worldwide comps and 6-7% footage growth to drive $3.64 in EPSrepresenting 24% bottom-line growth. We are modeling EBIT margins up 100bps to 20.8% driven by 120bps of leverage on expense, partially offset by a 20bps decline in GMs (2H weighted). By segment, we assume Americas comps up 14%, Asia-Pacific comps up 29%, Japan comps up 4% (up 14% inc currency), and Europe comps up 9% (up 14% inc currency).

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North America Equity Research 07 February 2012

2012
For 2012, we assume 4% worldwide comps and 6-7% footage growth to drive $3.80 in EPSrepresenting 4% bottom-line growth. We are modeling EBIT margins down 70bps to 20.1% driven solely by lower GMs (cost inflation) with 20bps of expense leverage. By segment, we assume Americas comps up 2%, Asia-Pacific comps up 10%, Japan comps up 5% (up 9% inc currency), and Europe comps down 1% (down 5% inc currency).
Table 1: Summary Income Statement
Americas Asia-Pacific Europe Other Total Sales % Change Cost of Goods Sold Gross Profit Gross Margin SG&A Operating Income Operating Margin EBITDA Other Expenses Pre-Tax Income Taxes Net Income EPS % Change 2008 1,587 922 285 67 2,860 -2.7% 1,208 1,652 57.8% 1,157 495 17.3% 631 28 467 173 294 $2.33 -5.7% 2009 1,411 957 312 35 2,710 -5.3% 1,179 1,530 56.5% 1,090 440 16.2% 579 51 390 134 256 $2.04 -12.3% 2010 1,575 1,096 361 54 3,085 13.9% 1,262 1,823 59.1% 1,211 612 19.8% 760 47 565 189 376 $2.93 43.5% 2011E 1,794 1,360 415 56 3,625 17.5% 1,491 2,134 58.9% 1,380 755 20.8% 930 42 712 243 470 $3.64 24.2% 2012E 1,867 1,534 414 60 3,875 6.9% 1,627 2,247 58.0% 1,467 780 20.1% 1,000 40 740 252 488 $3.80 4.5% 2013E 2,004 1,662 447 71 4,184 8.0% 1,724 2,460 58.8% 1,571 889 21.3% 1,139 38 851 290 561 $4.40 15.7%

Source: Company reports and J.P. Morgan estimates.

Valuation
TIF is trading at 17x our 2012 EPS estimate of $3.80. Our Dec 2012 PT of $60 is based on 15-16x (16-17x previously) our downwardly revised 2012 EPS estimate. That would put it at a 15-20% discount to the global luxury basket against which we benchmark TIF (Burberry, Fossil, LVMH, Ralph Lauren, Richemont, Swatch, and Coach) given that TIFs slowdown seems to be a lone standout to peers. While a great long-term story, the near-term risk seems too great at todays price to get involved here, in our view.

Risks to Rating and Price Target

We believe that a potential slowdown in the U.S. business and potential spikes in precious metal and diamond prices that TIF cannot completely offset with price increases represent significant risks to TIF shares. On the other hand, product and channel mix toward higher-margin categories could provide upside to our estimates.

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Brian J. Tunick (1-212) 622-6449 [email protected]

North America Equity Research 07 February 2012

Tiffany & Co: Summary of Financials

Income Statement - Annual Revenues COGS Gross profit SG&A Operating income EBITDA Interest, net Other Income Pretax income Income taxes Tax rate Net income - reported (GAAP) Diluted shares outstanding EPS - operating EPS - reported (GAAP) Balance Sheet and Cash Flow Data Cash and cash equivalents Accounts receivable Current assets PP&E Goodwill Total assets FY10A 3,085 1,262 1,823 1,211 612 47
-

FY11E 3,625 1,491 2,134 1,380 755 42

-

FY12E 3,875 1,627 2,247 1,467 780 40

-

565 189 33.4% 376 128 2.93 FY10A 741 186 2,685 666 3,736

712 243 34.1% 470 129 3.64 FY11E 669 211 2,911 741 4,037 100 590 588 1,668 2,369 175 188 457 (250) 207 1.60 -

740 252 34.1% 488 128 3.80 FY12E -

Income Statement - Quarterly Revenues COGS Gross profit SG&A Operating income EBITDA Interest, net Other Income Pretax income Income taxes Tax rate Net income - reported (GAAP) Diluted shares outstanding EPS - operating EPS - reported (GAAP) Ratio Analysis Sales growth Same store sales growth EBITDA growth EBIT growth EPS growth - operating Gross margin EBIT margin EBITDA margin Inventory growth Debt / EBITDA Enterprise value / Revenues Enterprise value / EBITDA P/E

1Q11A 761A 317A 444A 300A 144A 10A

-

2Q11A 873A 358A 515A 340A 175A 10A

-

3Q11A 822A 346A 476A 330A 146A 10A

-

4Q11E 1,170 470 700 411 289 12

-

134A 48A 35.6%A 86A 129A 0.67A FY10A 13.9% 6.5% 39.1% 43.5% 59.1% 19.8% 13.8% -

166A 55A 33.0%A 111A 130A 0.86A FY11E 17.5% 6.5% 23.3% 24.2% 58.9% 20.8% 16.0% -

136A 46A 33.9%A 90A 129A 0.70A FY12E 6.9% 3.4% 4.5% 58.0% 20.1% -

277 94 34.0% 183 129 1.42 -

Short-term Debt 100 Current liabilities 480 Long-term Debt 588 Total liabilities 1,558 Shareholders' equity 2,177 D&A 148 Change in working capital 269 Cash flow from operations 299 Capex (127) Free cash flow 128 Free cash flow / share 0.99 Dividends Source: Company reports and J.P. Morgan estimates. Note: $ in millions (except per-share data).Fiscal year ends Jan

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North America Equity Research 07 February 2012

Analyst Certification: The research analyst(s) denoted by an AC on the cover of this report certifies (or, where multiple research analysts are primarily responsible for this report, the research analyst denoted by an AC on the cover or within the document individually certifies, with respect to each security or issuer that the research analyst covers in this research) that: (1) all of the views expressed in this report accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the research analyst's compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report.

Important Disclosures

Lead or Co-manager: J.P. Morgan acted as lead or co-manager in a public offering of equity and/or debt securities for Tiffany & Co within the past 12 months. Client: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients: Tiffany & Co. Client/Investment Banking: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as investment banking clients: Tiffany & Co. Client/Non-Investment Banking, Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients, and the services provided were non-investment-banking, securities-related: Tiffany & Co. Client/Non-Securities-Related: J.P. Morgan currently has, or had within the past 12 months, the following company(ies) as clients, and the services provided were non-securities-related: Tiffany & Co. Investment Banking (past 12 months): J.P. Morgan received in the past 12 months compensation for investment banking Tiffany & Co. Investment Banking (next 3 months): J.P. Morgan expects to receive, or intends to seek, compensation for investment banking services in the next three months from Tiffany & Co. Non-Investment Banking Compensation: J.P. Morgan has received compensation in the past 12 months for products or services other than investment banking from Tiffany & Co. Company-Specific Disclosures: Important disclosures, including price charts, are available for compendium reports and all J.P. Morgan covered companies by visiting https://mm.jpmorgan.com/disclosures/company, calling 1-800-477-0406, or emailing [email protected] with your request.
Tiffany & Co (TIF, TIF US) Price Chart
150 N $38 125 N $31 100 N $27 Price($) 75 N $46 N $52 N $42 N $62 N $75 N $70 N $48 N $50 N $46 N $60

Date 23-Apr-09 05-Jun-09 01-Sep-09 15-Apr-10 02-Jun-10 01-Sep-10 13-Oct-10 02-Feb-11

Rating Share Price ($) N N N N N N N N 26.80 30.22 34.93 42.15 50.20 42.32 44.69 39.63 49.83 63.07 58.55 75.66 67.88

Price Target ($) 27.00 31.00 38.00 46.00 52.00 48.00 46.00 42.00 50.00 60.00 62.00 75.00 70.00

14-Dec-09 N 24-May-10 N

50

25

06-Dec-10 N 31-May-11 N 09-Dec-11 N

0 Oct 06 Jul 07 Apr 08 Jan 09 Oct 09 Jul 10 Apr 11 Jan 12

Source: Bloomberg and J.P. Morgan; price data adjusted for stock splits and dividends. Initiated coverage Apr 23, 2009.

The chart(s) show J.P. Morgan's continuing coverage of the stocks; the current analysts may or may not have covered it over the entire period. J.P. Morgan ratings: OW = Overweight, N= Neutral, UW = Underweight Explanation of Equity Research Ratings and Analyst(s) Coverage Universe: J.P. Morgan uses the following rating system: Overweight [Over the next six to twelve months, we expect this stock will outperform the
6

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North America Equity Research 07 February 2012

average total return of the stocks in the analyst's (or the analyst's team's) coverage universe.] Neutral [Over the next six to twelve months, we expect this stock will perform in line with the average total return of the stocks in the analyst's (or the analyst's team's) coverage universe.] Underweight [Over the next six to twelve months, we expect this stock will underperform the average total return of the stocks in the analyst's (or the analyst's team's) coverage universe.] In our Asia (ex-Australia) and UK small- and mid-cap equity research, each stocks expected total return is compared to the expected total return of a benchmark country market index, not to those analysts coverage universe. If it does not appear in the Important Disclosures section of this report, the certifying analysts coverage universe can be found on J.P. Morgans research website, www.morganmarkets.com. Coverage Universe: Tunick, Brian J.: Abercrombie & Fitch (ANF), Aeropostale (ARO), American Eagle Outfitters (AEO), Ann Taylor Stores (ANN), Ascena Retail Group Inc (ASNA), Chico's FAS, Inc. (CHS), Citi Trends, Inc. (CTRN), Coach, Inc (COH), Francesca's Holdings Corp (FRAN), JoS. A. Bank Clothiers Inc (JOSB), Limited Brands, Inc. (LTD), Men's Wearhouse (MW), Michael Kors (KORS), Ross Stores (ROST), TJX Companies (TJX), The Buckle Inc. (BKE), The Children's Place (PLCE), The Gap, Inc. (GPS), The Wet Seal, Inc (WTSLA), Tiffany & Co (TIF), Ulta Salon, Cosmetics & Fragrance, Inc. (ULTA), Urban Outfitters (URBN), rue21, inc. (RUE) J.P. Morgan Equity Research Ratings Distribution, as of January 6, 2012
J.P. Morgan Global Equity Research Coverage IB clients* JPMS Equity Research Coverage IB clients* Overweight (buy) 47% 52% 45% 72% Neutral (hold) 42% 45% 47% 62% Underweight (sell) 12% 36% 8% 58%

*Percentage of investment banking clients in each rating category. For purposes only of FINRA/NYSE ratings distribution rules, our Overweight rating falls into a buy rating category; our Neutral rating falls into a hold rating category; and our Underweight rating falls into a sell rating category.

Equity Valuation and Risks: For valuation methodology and risks associated with covered companies or price targets for covered companies, please see the most recent company-specific research report at http://www.morganmarkets.com , contact the primary analyst or your J.P. Morgan representative, or email [email protected]. Equity Analysts' Compensation: The equity research analysts responsible for the preparation of this report receive compensation based upon various factors, including the quality and accuracy of research, client feedback, competitive factors, and overall firm revenues, which include revenues from, among other business units, Institutional Equities and Investment Banking.

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Brian J. Tunick (1-212) 622-6449 [email protected]

North America Equity Research 07 February 2012