Christmas comes early

Findel 29 November 2017 Update
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Findel

Christmas comes early

Interim results

Retail

29 November 2017

Price

153p

Market cap

£132m

Net core bank debt (£m) at end September 2017

90

Shares in issue

86.4m

Free float

100%

Code

FDL

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(15.0)

(8.4)

(18.7)

Rel (local)

(14.5)

(9.3)

(26.6)

52-week high/low

214.8p

150.5p

Business description

Findel comprises market-leading businesses in the UK online value retailing and education supplies markets. Findel’s objective is to develop sustainable growth in a marketplace for value-conscious customers who are rapidly moving their purchases online.

Next events

Trading update

Late January 2018

Post-close update

Early April 2018

Analysts

Paul Hickman

+44 (0)20 3681 2501

Neil Shah

+44 (0)20 3077 5715

Findel is a research client of Edison Investment Research Limited

Findel’s management team is seeing early success from its self-help measures. While strongly positive interim results are partly the result of timing issues, the underlying point is that sales growth from an early Christmas launch has already been banked, improving visibility. The change of strategy at the Education division is also bearing early fruit, and at 66% online, Studio continues to make steady progress to becoming a fully online retailer. Neither that nor management’s progress on strategy is reflected in a P/E rating of around 10% of pure-play online retailers.

Year
end

Revenue (£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

03/16

410.6

24.8

23.0

0.0

6.7

N/A

03/17

457.0

22.2

20.4

0.0

7.5

N/A

03/18e

478.1

26.0

25.0

0.0

6.1

N/A

03/19e

506.4

28.5

27.3

0.0

5.6

N/A

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Underlying improvement boosted by timing

H118 pre-tax profit was sharply higher at £11.9m against £1.9m in H117. The increase was largely driven by Express Gifts, trading as Studio, and included timing issues, particularly management’s decision to begin its pre-Christmas campaign in September rather than October. However, a 103% operating profit increase from the Education division also contributed, marking an important early result of the change strategy targeted at restoring Education to a 10% return on sales.

Value offer is gaining share

At a time of deepening uncertainty and challenge for the consumer economy in general and retail in particular, we believe Studio’s value offer, combined with its consumer credit services, is well placed to gain market share among its value-conscious customer group. Its outstanding like-for-like revenue growth of +15.8% in H118, combined with improved gross and net margin, indicates that it is doing so.

Taking control of the main drivers

Findel is demonstrating increased control over its destiny with 66% of orders now online, a marked turnaround in the performance of the Education division, and a first half clear of exceptionals. With improved profit visibility for the second half, we make no material change to our forecast of 17% pre-tax profit growth in FY18. However, we believe that the balance of risk has moved to the upside.

Valuation: Double the current price

We slightly adjust our sum-of-the parts valuation from 324p to 312p, mainly as a result of the reduction in the rating of our reference stock, N Brown, net of the positive effect of the scheduled pay-down of the financial services provision. Our valuation equates to an FY18e P/E ratio of 12x. Pure-play online retailers are rated at over 60x, indicating the valuation headroom available to Findel as it identifies more closely with the online model.

Interim results: Underlying progress flattered by timing

H118 pre-tax profit (before valuation of derivatives) was sharply higher at £11.9m against £1.9m in H117. The increase was largely driven by Express Gifts, with a 103% operating profit increase from the Education division also contributing.

Exhibit 1: Summary of interim results

£m

H117*

H118

Growth

Express

159.5

176.6

10.7%

Education

53.5

49.4

-7.8%

Total revenue

213.0

226.0

6.1%

Operating profit

Express

5.1

16.1

215.3%

Express operating margin

3.2%

9.1%

5.9%

Education

1.7

3.4

102.8%

Central costs

(0.3)

(3.2)

886.6%

Total

6.5

16.3

153.0%

Operating margin

3.0%

7.2%

4.2%

Interest

(4.6)

(4.4)

4.0%

PBT

1.9

11.9

538.1%

Source: Findel. Note: *27 weeks.

The results included the positive effect of timing differences at Express, discussed below. However, the increase at Education represents significant early success in its change of strategy.

The company has reclassified its results presentation to absorb the now immaterial overseas sourcing operation into Express Gifts and to state central costs separately. The increase in central costs is an allocation issue related to the reorganisation process and we do not expect it to be sustained at this level. We present the results before revaluation of foreign exchange contracts. Those revaluations resulted in a £3.8m charge (H117: £1.4m credit). They relate to foreign exchange contracts that assure expected commercial margins, whose effect are in our forecasts, and we therefore do not believe that they are helpful in understanding the results at mid-year.

Express Gifts – online increases further

Express Gifts improved further on its full-year FY17 performance with like-for-like product revenue up 15.8% (FY17: 15.6%). This was in part the result of Studio starting its pre-Christmas marketing campaign in September this year, rather than October last year.

Exhibit 2: Express results summary

£m

H117*

H118

Growth

Product

110.4

125.3

13.5%

Financial Services

47.4

51.2

8.1%

Overseas sourcing

1.8

0.1

-93.8%

Total revenue

159.5

176.6

10.7%

Product cost of sales

(74.6)

(83.4)

11.8%

FS cost of sales (bad debts)

(16.0)

(10.0)

-37.5%

Sourcing cost of sales

(1.6)

(0.1)

-91.2%

Total cost of sales

(92.1)

(93.6)

1.5%

Gross profit

67.4

83.1

23.3%

Product margin

32.4%

33.4%

1.0pp

Gross profit margin

42.2%

47.0%

4.8%

Marketing costs

(19.9)

(23.4)

17.6%

Distribution costs

(16.3)

(17.5)

7.1%

Administration costs

(26.0)

(26.0)

0.1%

Operating profit

5.1

16.1

215.3%

Source: Findel. Note: *27 weeks.

Online ordering was up from 63% for the full year FY17 to 66.4%, showing further progress towards the company’s stated aim of becoming a 100% online operation. The increase was led by new customers, over 80% of whom ordered online, against 71% during the full year FY17. The active customer base was up by 230,000, or 15.7% year-on-year, to reach 1.7 million.

Product gross margin improved 100bp for three reasons: firstly, as a result of a marketing-based approach and reducing dependence on price discounting; secondly, because of an increased mix of apparel, which achieves higher margins; and thirdly, because Showcase items (a selection of high-profile, discounted lines designed to excite customer interest) were on average priced at c 20% gross margin, compared to the prior year period, which was dominated by a laptop offer that was not profitable. Gross margin on financial services fell as a result of lower bad debt provisions; this is essentially a timing difference produced by the company’s new provisioning system and is expected to reverse in the second half. Marketing costs were £3.5m higher as a result of bringing forward the pre-Christmas campaign, with high-profile TV advertising targeted at the main customer group (for example, timed during I’m A Celebrity…). Distribution costs responded to the increased volumes, while administrative costs were held steady.

In current trading, whereas October was sluggish in common with retailers elsewhere, November has rebounded strongly, with product sales growth of 12% for the 34 weeks to Friday 24 November. Studio appears to be benefiting from the relative trend towards bargain-hunting on small ticket items.

Financial services

The presentation above clarifies the profit, as well as the revenue significance of the financial services operation to the company, which underpins its value retail offer. The healthy 8% increase in revenue supports the growth in product revenue, and the number of new customers who carried over an account balance rose 8.8% in the period, demonstrating the popularity of the facility.

Findel has responded to the sensitivity of managing consumer credit with a range of actions, and has strengthened its team in this area. We would point to the successful implementation of Welcom Software’s Financier credit management platform in October, a development noted as having been delayed in the 2017 Annual Report. Management also delivered its new bad debt model early at the year end, and is on track with development work that will result in its being compliant with IFRS 9, the International Financial Reporting Standard on financial instruments effective 1 January 2018. Meanwhile, we note that the disposition of the customer refund provisions made at year end is proceeding to plan with £8.4m having been paid, and that there are no new exceptional items.

Education division

Exhibit 3: Education results summary

£m

H117*

H118

Growth

Revenue

53.5

49.4

-7.8%

Cost of sales

(34.9)

(31.3)

-10.3%

Gross profit

18.6

18.1

-2.7%

Gross profit margin

34.8%

36.6%

1.9%

Marketing costs

(3.1)

(2.0)

35.5%

Distribution costs

(5.9)

(5.2)

11.9%

Administration costs

(8.0)

(7.5)

6.3%

Operating profit

1.7

3.4

102.8%

Source: Findel. Note: *27 weeks.

First half performance at the Education business reflected the early results of the revised strategy announced at the FY17 preliminary results. This targets an operational turnaround focused on four areas:

Digital: increasing online ordering to ease schools’ administration and aid customer loyalty. As planned, new websites were rolled out over the summer, linked to price comparison tools. As a result, online ordering is up from c 10% in March 2017 to over 25% in November 2017.

Value: reducing prices to improve competitiveness. Prices were reduced on c 800 items during September by up to 30%.

Product: increasing direct sourcing from the Far East. The benefit of this move is likely to be seen in early FY19.

Profitability: simplifying the business and reducing costs to target a 10% operating margin. Savings have been achieved on the warehouse consolidation of December 2016, and further initiatives worth an annualised £3-4m were identified at year end. Around £1m of those initiatives will be realised in the current year (we therefore estimate c £0.5m is reflected in the first half). Hence the cost benefits to come are substantial.

Management believes that its plans for the division are on track. Although the trading effects of the initiatives will be more clearly seen as the school year progresses, these results are very promising, showing a 100% improvement in operating profit, of which only c 30% is the result of overhead cost savings.

Balance sheet

Core net debt was £90.0m at end September, a reduction of £4.5m against September 2016. This is as expected ahead of the main trading season.

Forecast

Guidance for the full year is unchanged, and we make no material change to our forecasts. Management advises that as a result of Studio’s marketing initiative in September rather than October, second-half revenue growth will likely be commensurately lower: we assume 8.5% to produce 10.6% for the full year.

At the PBT level, last year’s split was H1: £1.9m, H2: £20.3m, FY: £22.2m. Against this, in FY18, H1 was £11.9m and we forecast £14.1m in H2 to total £26.0m. Even allowing for the £3.5m marketing cost switch between H1 and H2, and the disparity in bad debt provisioning, this would appear to give better visibility of the full year result. With Studio posting 12% sales growth for the first eight weeks of the second half, we believe that the balance of risk for the full year has moved to the upside.

Valuation

We adjust our sum-of-the parts valuation from 324p to 312p, as a result of a several small factors:

1.

Reduction in the provision for financial services product liabilities from £25.5m to £17.1m by the settlement of £8.4m of liabilities since year end. We reflect 90% of the provision in our valuation

2.

Reduced rating of our reference stock, N Brown, for FY18. We refer to N Brown as it is the only other listed retailer that is in a progression from mail order to online. We use N Brown’s P/E ratio discounted by the dividend yield to reflect the absence of a dividend at Findel. N Brown has recorded good results from its stores, as well as progress in online ordering, but has needed to provide against flaws in past insurance products on a similar basis to Findel. It is currently rated at a year 1 P/E of 12.4x, slightly down on 13.0x at the time of our July note, and its yield is slightly up at 5.2% against 4.9%. As a result, the effective multiple is down from 12.0x to 11.8x.

3.

Separate reporting of central costs. These would previously have been split between Express and Education. We apply a P/E multiple of 10x.

4.

Reduction in the balance sheet pension deficit from £12.8m to £4.3m.

Exhibit 4: Sum-of-the-parts valuation

Basis

Metric (£m)

Multiple (x)

Value (£m)

Express (incl securitisation facility)

NOPAT FY18e

31.5

11.8

370.8

Education

EBITDA FY18e

8.8

7.0

61.3

Central costs

FY18e

(6.3)

10.0

(62.5)

Enterprise value

369.6

Core net debt

Dec-16

(80.8)

Pension deficit

Balance sheet

(4.3)

Cash provisions on financial products

90% reflected

(15.4)

Equity value

270.0

# shares (m)

86.4

SOTP value per share (p)

312p

Source: Edison Investment Research

Our valuation would equate to a P/E ratio of 12.0x for FY18e, falling to 11.4x for FY19e, which is close to the current rating of N Brown. That compares with 6.1x and 5.6x currently. However, as we indicate in our July note, Findel is moving closer to its goal of becoming a pure-play online retailer. Online peers ASOS, Boohoo and Gear4music are rated on year 1 P/E ratings of 61-68x earnings, which reflect market expectations of higher sustained profit growth. This indicates the valuation headroom available to Findel as it identifies more closely with the online model.

Exhibit 5: Financial summary

£000s

2016

2017*

2018e

2019e

Year end March

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

410,601

457,030

478,139

506,404

Cost of Sales

(214,621)

(269,385)

(278,341)

(293,270)

Gross Profit

195,980

187,645

199,798

213,134

EBITDA

 

 

41,758

40,785

46,748

51,907

Operating Profit (before amort. and except.)

 

37,264

33,299

39,071

44,400

Intangible Amortisation

(2,348)

(1,959)

(2,031)

(2,495)

Operating profit pre exc post intang amortisation

34,916

31,340

37,040

41,905

Exceptionals

(25,458)

(82,152)

0

0

Other/share based payments

(239)

(191)

(1,000)

(1,000)

Operating Profit

9,219

(51,003)

36,040

40,905

Net Interest

(9,901)

(8,920)

(10,028)

(12,371)

Financial exceptional items

(998)

556

(3,817)

0

Profit Before Tax (norm)

 

 

24,776

22,229

26,012

28,534

Profit Before Tax (FRS 3)

 

 

(1,680)

(59,367)

22,195

28,534

Tax

91

1,659

(4,654)

(5,992)

Profit After Tax (norm)

19,785

17,616

21,589

23,542

Profit After Tax (FRS 3)

(10,196)

(57,708)

17,541

22,542

Average Number of Shares Outstanding (m)

86.1

86.3

86.3

86.3

EPS - normalised (p)

 

 

23.0

20.4

25.0

27.3

EPS - normalised and fully diluted (p)

 

20.3

20.4

25.0

27.3

EPS - (IFRS) (p)

 

 

(11.8)

(66.8)

20.3

26.1

Dividend per share (p)

0.0

0.0

0.0

0.0

Gross Margin (%)

47.7

41.1

41.8

42.1

EBITDA Margin (%)

10.2

8.9

9.8

10.3

Operating Margin (before GW and except.) (%)

9.1

7.3

8.2

8.8

BALANCE SHEET

Fixed Assets

 

 

92,927

79,012

78,462

77,460

Intangible Assets

47,322

26,185

29,311

31,816

Tangible Assets

41,423

44,417

40,741

37,234

Investments

4,182

8,410

8,410

8,410

Current Assets

 

 

321,279

301,265

322,404

337,117

Stocks

53,472

57,108

69,060

72,016

Debtors

229,848

212,648

222,521

236,912

Cash

34,405

29,173

29,074

26,441

Other

3,554

2,336

1,748

1,748

Current Liabilities

 

 

(76,191)

(91,789)

(89,290)

(93,459)

Creditors

(75,673)

(91,244)

(88,772)

(92,941)

Short term borrowings

(518)

(545)

(518)

(518)

Long Term Liabilities

 

 

(259,140)

(271,785)

(277,206)

(272,215)

Long term borrowings

(250,569)

(253,603)

(264,192)

(264,192)

Other long term liabilities

(8,571)

(18,182)

(13,014)

(8,023)

Net Assets

 

 

78,875

16,703

34,370

48,903

CASH FLOW

Operating Cash Flow

 

 

8,889

12,280

8,221

27,730

Net Interest

(9,549)

(9,103)

(10,028)

(12,371)

Tax

(2,494)

148

1,146

(5,992)

Capex

(15,940)

(11,724)

(10,000)

(12,000)

Acquisitions/disposals

11,115

1,168

0

0

Financing

0

0

0

0

Dividends

0

0

0

0

Net Cash Flow

(7,979)

(7,231)

(10,661)

(2,633)

Opening net debt/(cash)

 

 

206,551

216,682

224,975

235,636

HP finance leases initiated

0

0

0

0

Other

(2,152)

(1,062)

0

0

Closing net debt/(cash)

 

 

216,682

224,975

235,636

238,269

Source: Company accounts, Edison Investment Research. Note: *53 weeks.

Edison is an investment research and advisory company, with offices in North America, Europe, the Middle East and AsiaPac. The heart of Edison is our world-renowned equity research platform and deep multi-sector expertise. At Edison Investment Research, our research is widely read by international investors, advisers and stakeholders. Edison Advisors leverages our core research platform to provide differentiated services including investor relations and strategic consulting. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

DISCLAIMER
Copyright 2017 Edison Investment Research Limited. All rights reserved. This report has been commissioned by Findel and prepared and issued by Edison for publication globally. All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report. Opinions contained in this report represent those of the research department of Edison at the time of publication. The securities described in the Investment Research may not be eligible for sale in all jurisdictions or to certain categories of investors. This research is issued in Australia by Edison Investments Pty Ltd (Corporate Authorised Representative (1252501) of Myonlineadvisers Pty Ltd (AFSL: 427484)) and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. The Investment Research is distributed in the United States by Edison US to major US institutional investors only. Edison US is registered as an investment adviser with the Securities and Exchange Commission. Edison US relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. As such, Edison does not offer or provide personalised advice. We publish information about companies in which we believe our readers may be interested and this information reflects our sincere opinions. The information that we provide or that is derived from our website is not intended to be, and should not be construed in any manner whatsoever as, personalised advice. Also, our website and the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. This document is provided for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.
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Edison is an investment research and advisory company, with offices in North America, Europe, the Middle East and AsiaPac. The heart of Edison is our world-renowned equity research platform and deep multi-sector expertise. At Edison Investment Research, our research is widely read by international investors, advisers and stakeholders. Edison Advisors leverages our core research platform to provide differentiated services including investor relations and strategic consulting. Edison is authorised and regulated by the Financial Conduct Authority. Edison Investment Research (NZ) Limited (Edison NZ) is the New Zealand subsidiary of Edison. Edison NZ is registered on the New Zealand Financial Service Providers Register (FSP number 247505) and is registered to provide wholesale and/or generic financial adviser services only. Edison Investment Research Inc (Edison US) is the US subsidiary of Edison and is regulated by the Securities and Exchange Commission. Edison Investment Research Limited (Edison Aus) [46085869] is the Australian subsidiary of Edison. Edison Germany is a branch entity of Edison Investment Research Limited [4794244]. www.edisongroup.com

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

295 Madison Avenue, 18th Floor

10017, New York

US

Sydney +61 (0)2 8249 8342

Level 12, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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