4Q17 trading update – quarter on quarter improvement
Michael Hill International (MHJ) reported FY17 total sales growth of 6%, underpinned by 1.5% same-store sales (SSS) growth and 20 net store openings in the period.
FY17 SSS growth comprised:
- Australia +1.2% (vs +3.8% in the previous corresponding period);
- New Zealand -0.8% (vs +7.2% in the pcp);
- Canada +8.8% (vs +5.3% in the pcp);
- United States -13.4% (vs +3.5% in the pcp); and
- Emma & Roe -1.9% (vs +34.6% in the pcp).
Based on our estimates, 4Q17 (three months) SSS growth comprised:
- Australia +3.6% (vs +0.2% in 1H17 and +0.8% in 3Q17);
- New Zealand +1.0% (vs -1.5% in 1H17 and -1.4% in 3Q17);
- Canada +14.2% (vs +6.8% in 1H17 and +7% in 3Q17); and
- United States -20.6% (vs -9.3% in 1H17 and -14.4% in 3Q17).
Canada was the standout with the business clearly taking customer share following the closure of a key competitor. Emma & Roe continues to be challenged during the initial rollout phase despite SSS showing improvement quarter on quarter.
We moderate earnings further due to larger losses in Emma & Roe/US
While no margin or earnings guidance was provided, we now have a reasonable read on how FY17 played out. Management reiterated that FY17 gross margin will fall on the previous corresponding period due to:
- a challenging consumer environment (e.g. clearance activity); and
- discounting of surplus inventory to help fund MHJ's branded collections.
We have made downward revisions to our forecasts, largely relating to:
- incorporation of FY17 like-for-like sales growth assumptions and store count;
- increased forecast losses in Emma & Roe (cA$6.5m FY17F) and the US division (cA$4m FY17F) in FY17 from a lower top-line outcome (and store closure in the US); and
- lower Emma & Roe store rollout assumptions in FY18 and onwards.
The above changes, in addition to higher shares on issue, sees our earnings per share forecasts fall by 10% in FY17, 12% in FY18 and 14% in FY19. We note that the Emma & Roe business is currently undergoing a review due to underperformance which could see material changes to the current operating strategy. Any changes could take time to implement and we have therefore assumed a similar loss in FY18 vs FY17.
The incorporation of the above forecast changes and lower multiplies (in line with the recent sector de-rating) sees us reduce our share price target. We believe there are some execution risks given the quantum of losses being created from the Emma & Roe and US businesses. We will need to see management announce and execute a material change of strategy within both of these businesses before becoming more positive on the stock. Key risks include consumer sentiment, margin/competitive pressure and persistent/growing losses in Emma & Roe and the United States.
Given these risks, and with MHJ now trading largely in line with its sector peers following our EPS downgrades (13x FY18F), we move to a Hold recommendation (previously Add).
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