Originally Posted by
Muse
It already is - the 1H was a fantastic result - the 2H was quite poor, and that looks like continuing into FY24. A few observations.
A helicopter perspective first. Sales in the 2H were up 3.2%, while NPAT fell 18.6% over the same period. Sales for the first 8 weeks of FY24 are down 5.9%. So using the exit run rate from the 2H, when a lift in sales of 3.2% still produced a fall in NPAT of 18.6%, what happens to NPAT when the group is posting now meaningful declines in revenue? It's clear topline growth is no longer translating through to earnings growth, and from the inflationary effect on CODB there are substantial cost issues & the business is increasingly operationally leveraged, a highly undesirable position to be in with falling volumes & sales.
Case in point - 2H revenues of $186.4m were higher than in any of the preceding 5 financial years, but 2H NPAT of $11.152m was also below all those same periods. Implicitly its 2H NPAT margin as a % of sales is also now lower than the previous five 2H results.
This is despite a 180bps improvement in group GP margins achieved in the 2H, relative to the first half. In post #8895 I mused if GP margins had troughed in the first half (given freight rate movements and if not would be in the 2H) and that looks to have transpired, a positive development. That said the outlook for margin still looks challenging given the group purchases raw materials (and pays for inward freight) in US dollars, and both the NZD and AUD have depreciated considerably in the new financial year relative to 2H FY23. I would have thought the group, particularly in Australia, completed the bulk of its excess winter clearances in July (typically the biggest month for winter discounts) and perhaps some into August, necessitated by a warmer winter, so I'd expect some overall margin improvement in the new year.
So that really shines a spotlight on overheads/cost of doing business (CODB), and the growing operational leverage in the business. In the 1H FY23 result, management commented they were looking for cost efficiencies wherever possible. Despite that, CODB (including lease interest expense) still increased 9.1%. Sure, a few new stores stores since then, so on a CODB per average store basis, increased about 7.3%. If you break it down more looking at the cost segment notes, all up lease & rental expenses per average store (ROU depreciation + ROU interest + expensed short term rentals) were up about 12.9% per AS, wages up 3.9% per AS, outward distribution largely variable and consistent as a % of sales, and other CODB/average store up about 6.5%.
I wouldn't necessarily expect CODB to continue at that rate into FY24 but I don't think it will be materially less than that. Wage pressure persists in both countries (particularly in Australia), which hopefully the group can offset some by flexing and releasing casuals as demand falls (and I expect they did in the 2H FY23). Rent remains high and many of them will have references to CPI which hurts in a falling demand environment. It'll take a few years for that to fully normalise as leases come up for renewal as pressure grows on landlords to improve terms in respect of the macro environment. Rolling forward will be additional lease expense associated with new office and warehouse space taken next to the Sydney fulfillment centre that wasn't in 1H Fy23's result (a bit of an investment for the future). Insurance costs, security costs, rates are all headed in the wrong direction. HLG's board and management team are very savvy old hands renowned for being hard negotiators so I'd expect they will do a better job than most in managing the situation. That said they have a new CEO coming in from KMD, which is a much more top heavy, bureaucratic and ESG focused model so probably worth considering how that could impact on cost creep in the future.
On the demand side, a 5.9% fall in sales over the first 8 weeks of the new financial year is meaningful when you consider the impact of inflation and the monthly spike up associated with the FIFA WWC in both countries. I note that Forbar who are the only analyst covering HLG were forecasting immediately prior to today FY24 NPAT of $23.6m, and only expected sales to fall 1% in 1H FY24, so not tracking well from that perspective. To be fair their reports never really mentioned the impact of freight on GP and centred on FX so I wouldn't be surprised to see if they now revise their revenue assumptions, GP %, and adjust CODB forecasts accordingly following todays report.
The most important 2 months of the financial year are November and December which isn't far away, so one shouldn't read too much into the first 8 week run rate (up or down). Rent is high (& accelerated to a record high in NZ last month), food price inflation remains high if moderating, fuel has gone back up to very uncomfortable levels, student debt interest is increasing, parents mortgages are increasing as they roll off fixed terms, and unemployment while very low will probably only go in one direction. You'd have to do some mental gymnastics in order to rationalise a positive retail demand picture. A new Glassons AU store in scheduled for opening in December (most of the way through 1H), and probably another one in the 2H if history is any guide, but with ~119 in the network the margin gain from individual new store openings is diminishing.
The most positive thing in the 2H result from my perspective was the implementation of transfer pricing & its positive impact on imputation credits and theoretical lowering of future effective tax rates. Early last year I commented on this thread that they should implement one - nice to see it being actioned
That's a real tangible improvement and well done to management for implementing it. And that they retained the 24cps dividend which was a gimmie given they underpaid in 1H and brought the full year payout to 89.5% (FY18 to FY23 average payout of 90.3%).
Anyway - one long TLDR muse from me - all my opinions & initial reactions only. Retail an increasingly volatile beast so critical to do your own research and come to your own view.