A risky punt on the high street
By
Associate Editor
David Stevenson Jan 22, 2010
Print this article
Update from MoneyWeek magazine issue no 478, 19 March 2010
This week, French Connection (see below) reported the sale of the Nicole Farhi brand and closure of its loss-making operations. So a return to profitability should happen quickly.
Although the shares have jumped to 47p on this welcome news, the long-term case for French Connection still looks sound, even taking account of disposal costs. The market cap is less than 25% of sales, while the net asset value (NAV) tots up to 74p per share. There's no debt: indeed almost half of the NAV is cash in the bank. So long-term investors should stay put. Short-term traders should take the 50% profit within two months off the table now.
So Christmas on Britain's high streets wasn't cancelled after all. Like-for-like sales in December rose by 4.2%, the best growth for four years, and "stronger than we dared hope for", says Stephen Robertson at the British Retail Consortium (BRC). "This goes well beyond just making up for the sales fall the sector suffered a year ago. Customers clearly felt more confident about spending than they have for some time." So has general (non-food) retailing turned the corner?
Maybe not. "The widely reported success of the UK retail sector over the Christmas period may not be as buoyant as the figures suggest," says the BBC. For starters, the recession has claimed a number of high-profile casualties. Some once-big high-street names – Principles, Bay Trading, Woolworths and Zavvi – are no longer trading. So, as Verdict Research notes, during this festive season the survivors picked up £14bn of extra business that would have gone to now-defunct rivals anyway. The temporarily lower 15% VAT rate also gave retailers a one-off boost. But VAT has now returned to 17.5%. And that's not the only reason the outlook for both stores and their shares looks grim for 2010.
The BRC has warned that general retailers "overwhelmingly believe 2010 will continue to be tough". Wage growth is likely to stay weak, meaning UK consumers' extra financial ammunition will remain rationed. Worse, this year promises a raft of extra taxes to plug the growing hole in Britain's public coffers.
The problem isn't just a short-term one either. This week the Ernst & Young ITEM Club – a respected economic forecasting group – warned of a decade of pain for Britons. "The massive debts we racked up in the last decade now need to be repaid," says the Club's chief economic adviser, Peter Spencer. "We are no longer in a position to borrow." Personal 'balance-sheet repair' is likely to continue for several years – existing high debts will have to be paid down, leaving much less money available for spending.
That process has started. Year-on year, consumer credit started shrinking in October 2009 for the first time since Bank of England records began in 1994. That credit contraction then gained momentum during November. British households have also started saving again. The UK savings ratio – the proportion of disposable income set aside for a rainy day – fell to zero in early 2008, but has now climbed to over 8% – its level over ten years ago. More evidence that less cash will be spent in stores.
This all means retailers' own finances will stay under pressure. The latest Retail Stress Indicator survey by insolvency specialist Begbies Traynor and The Daily Telegraph shows the number of UK retailers facing "significant or critical" financial difficulties over the three months to 8 January is just 5% below last year. "Most of the weakest [retailers] have collapsed," says Maureen Hinton at Verdict. "We don't predict there'll be as many casualties in 2010." But the fact that fewer firms are on the brink could spell more bad news, as last year's easy wins – sales snaffled up from departed rivals – are unlikely to be repeated this year. That means tougher competition for any spare consumer cash.
In short, general retailing could now be saddled with overcapacity and depressed profits for years to come. So the sector's 40% outperformance of the overall stockmarket in 2009 is set to go into sharp reverse. Sadly for them, the wider economic picture is not something any of the nation's shopkeepers control. But their pain could be eased somewhat by the sector's strongest players reducing the competition by taking over and consolidating its weaker ones. We look at a possible target below.
A risky punt on a retail survivor
It's been a disastrous six years for shareholders in international fashion retailer French Connection (LSE: FCCN). A string of losses has wiped 93% off the stock price since February 2004.
But this calamitous collapse has presented an opportunity – albeit a speculative one. French Connection is now valued by the stockmarket at just £30m. Yet annual turnover is £250m. Even for a poorly performing general retailer, the resulting price-to-sales ratio of 0.12 is very low. Meanwhile, at the end of October, net cash – there's no debt – stood at £15.4m, more than half the firm's stockmarket value.
And that was before cash reserves were rebuilt over Christmas. At the end of July, tangible net assets stood at 84p per share. Even allowing for subsequent losses, at around 31.5p this stock is selling for less than half its net worth. No wonder "we're looking at every single store", said finance director Ray Naismith. "We need to go through the business top to bottom, bottom to top, to identify which parts aren't working."
But a return to profitability could still be some way off. And the longer shareholders see their investment drift below the firm's break-up value, the more likely they are to listen to bids.
Published in
Tips & advice
| More
articles
by
David Stevenson
Related articles
-
By David Stevenson, May 16, 2012
-
By Bengt Saelensminde, May 14, 2012
FREE - MoneyWeek's daily investment email
Our free daily email, Money Morning, is an informative and enjoyable analysis of what's going on in the markets. Written by our Editor, John Stepek, and guest contributors.
Sign up FREE to Money Morning here.