Harvey Norman Holdings

Transcription

1 Equities Australia Retailing 3 May 2012 Hold Important: The above recommendation has been made on a 12 month view and may not suit your investment needs or timeframe. The basis it is prepared on is summarised on the last page of this report. PLEASE CONTACT YOUR ADVISER TO DISCUSS THIS GENERAL RECOMMENDATION BEFORE ACTING ON IT. Moderate Volatility Harvey Norman Holdings Harvey Normalise? The commentary around today's result supported our view that current levels of acute discounting should abate. HVN's focus on cash flow expansion in 3Q12, together with industry stock liquidation, should not be repeated to the same extent, we believe. Our concern for HVN, however, is that sales momentum has not improved in line with other retailers, suggesting to us market share losses in AV and IT. TP A$1.82 (from A$2.00) Event: 3Q12 trading a significant step down HVN RBS Refiner Price (close 02 May) A$2.07 3M high/low A$2.22/1.85 Market cap A$2.21bn Av (12M) turnover A$7.90m Freefloat 45% Reuters HVN.AX Bloomberg HVN AU Net debt (cash) FY11 A$488.98m 3yr EPS CAGR 12-14F (5.4)% Income (2013F div yield) 4.3% Source: RBS forecasts, Bloomberg RBS vs consensus NPAT ($Am) RBS Cons % diff 20121F % 2013F % 2014F % Source: RBS, IBES HVN today reported its 3Q12 unaudited results, with PBT down 44% on the pcp. If the same momentum is carried through 4Q12, by our calculation the 2H12 franchisee EBIT margin would decline approximately 300bp to 1.7%. However, there is evidence from today s analyst briefing to support our view that current levels of discounting are acute and short term. Evidence includes: 1) Harvey Norman management had a dedicated plan in 3Q12 to accelerate franchisee cashflow (stock liquidation); 2) the company cleared A$35m of precautionary IT stock purchased in anticipation of stock shortages with the Thailand floods; and 3) liquidation of A$40m of WOW Sight & Sound inventory. In other regions, Ireland revenue continues to improve off a low base, translating into a lower constant currency PBT loss. NZ revenues and margin remain challenged, although have held up better than Australian franchisees. Forecasts: Downgrades to FY12 and FY13 We lower our NPAT forecasts by 11% to A$191m in FY12 and 20% to A$179m in FY13. Our forecasts reflect management s views that Australian franchisee turnover will continue to contract in FY13. We do, however, factor in margin improvement in 2H13 as the current pricing environment is cycled. In a scenario whereby Dick Smith is retained by Woolworths (downscaled or closed), it would likely bring more protracted margin pressure and therefore downside risk to our revised FY13 forecasts. As irrational discounting eases and with pending new product releases in the TV category specifically, earnings momentum should recover. Further interest rate cuts would also be beneficial. Valuation: Hold recommendation maintained; TP cut to A$1.82 Price performance (1M) (3M) (12M) Price (A$) Absolute (%) Rel to mkt*(%) *S&P/ASX200 Source: Bloomberg Key events Date Aug-12 Oct-12 RBS Morgans Limited (A.B.N ) AFSL A Participant of ASX Group Sourced from RBS Equities (Australia) Limited, ABN , AFS Licence Event FY result AGM Source: Company We believe HVN has a strong investment case; however investors risk downside earnings surprises in FY13F. Property assets continue to underpin the valuation, with the lack of smallscale developer activity creating further opportunities for HVN. Sector consolidation is a mediumterm opportunity across most segments. Given the near-term risk to earnings, however, we rate the stock Hold. We lower our target price and valuation to A$1.82 (from A$2.00) to reflect the downgrades to our earnings forecasts. Key downside risks to our target price are an extended downturn in retail activity, new competitors opening a larger number of stores than expected and potentially taking share from Harvey Norman, and sustained softness in Ireland earnings. The key upside risk is a greater-than-expected improvement in underlying retail conditions. Key forecasts year to Jun FY10A FY11A FY12F FY13F FY14F EBITDA (A$m) & & & Normalised net profit (A$m)¹ & & & Norm fully diluted EPS (c)¹ & & & Normalised EPS growth Dividend per share (c) & 9.00 & & Dividend yield (%) Normalised PE Use of %& indicates that the line item has changed by at least 5%. 1. Pre non-recurring items and post preference dividends Accounting standard: A-IFRS Important disclosures regarding companies that are the subject of this report and an explanation of recommendations and volatility can be found at the end of this document.

2 RBS Equities Forecasts: Harvey Norman Holdings Income statement A$m, year to June FY10A FY11A FY12F FY13F FY14F Revenue Cost of sales n/a n/a n/a n/a n/a Gross profit Operating costs EBITDA DDA & Impairment (ex gw) EBITA Goodwill (amort/impaired) n/a n/a n/a n/a n/a EBIT Net interest Associates (pre-tax) n/a n/a n/a n/a n/a Other pre-tax items Reported PTP Taxation Minority interests Other post-tax items Reported net profit Tot normalised items Normalised EBITDA Normalised EBIT Normalised PTP Normalised net profit Balance sheet A$m, year ended June FY10A FY11A FY12F FY13F FY14F Cash & market secs (1) Other current assets Tangible fixed assets Intang assets (incl gw) Oth non-curr assets Total assets Short term debt (2) Trade & oth current liab Long term debt (3) Oth non-current liab Total liabilities Total equity (incl min) Total liab & sh equity Net debt Cash flow statement A$m, year to June FY10A FY11A FY12F FY13F FY14F EBITDA Change in working capital Net interest (pd) / rec Taxes paid Other oper cash items Cash flow from ops (1) Capex (2) Disposals/(acquisitions) Other investing cash flow Cash flow from invest (3) Incr / (decr) in equity Incr / (decr) in debt Ordinary dividend paid Preferred dividends (4) n/a n/a n/a n/a n/a Other financing cash flow Cash flow from fin (5) Forex & disc ops (6) Inc/(decr) cash ( ) Equity FCF (1+2+4) Page 2

3 Key takeaways FY13 forecasts Below we detail our revised forecasts for FY12 and FY13. Management commented in today s analyst call that it is purchasing FY13 stock in anticipation that demand will be lower than in FY12. Our revenue forecasts for Australian franchisees reflect this. We expect the franchisee margins to deteriorate in 1H13 but recover in 2H13 as intensive tactical discounting is cycled. Table 1 : JBH: FY12 and FY13 forecasts A$m 1H12 1H13 Chg % 2H12 2H13 Chg % FY12 FY13 Chg % Franchising Sales % % % Franchising EBIT % % % Margin % 4.1% 3.2% -94bp 1.7% 2.3% 55bp 3.0% 2.7% -25bp Property EBIT % % % New Zealand Sales % % % New Zealand EBIT % % % Margin % 7.1% 7.2% 5bp 7.0% 8.7% 170bp 7.1% 7.9% 84bp Ireland Sales % % % Ireland EBIT % % % Other EBIT % % % Total EBIT % % % Source: RBS forecasts More a corporate model than a franchise model A number of questions in the analyst conference call focused on the potential fragility of AV/IT franchisees as competition accelerates. Management emphasised again today its intention to use the franchisors balance sheet to support franchisees through their working capital requirements. As such, we maintain the view that HVN maintains tight controls on franchisees to the extent that the model is effectively corporatized. The Australian store operational structure is becoming increasingly similar to the corporate model used in NZ. 3Q12 likely to be a low point for the franchisee margin In our view, there is enough evidence from today s analyst briefing to determine that current levels of discounting are acute and short term. Evidence includes: 1) Harvey Norman management had a dedicated plan to accelerate franchisee cashflow (stock liquidation); 2) Harvey Norman has successfully cleared A$35m of precautionary stock purchased at the time of the Thailand floods; and 3) the WOW sight & Sound liquidation. In other regions, Ireland revenue continues to improve off a low base, translating to a lower constant currency PBT loss. Risk of more store closures The Ex-Clive Peeters and Ex-Rick Hart stores have delivered improved operational results after having been rebadged as Harvey Norman. However, the improvement seems to be low and we estimate unlikely to be more than the marketing and head office costs saved by closing the CPR business. In our view, cannibalisation continues to be a major issue. Below, we show the Clive Peeters and Rick Hart stores converted to Harvey Norman and the number of existing Harvey Norman stores already in the same suburb and within a 5km radius. More than 50% of converted stores have an existing store in the same suburb. As such, we would expect further store closures in future years. Page 3

4 Table 2 : Store overlap with existing HVN network Store Same suburb Less than 5km Store Same suburb Less than 5km Braybrook 1 1 Loganholme 1 Coburg 1 Macgregor 1 Moorabbin 1 Mackay 1 Mornington Maroochydore Richmond 1 Morayfield 1 Ringwood 1 Belmont 1 Moonah 1 Joondalup 1 Aspley 1 Midland 1 Burleigh Waters Victoria Park 1 Source: Company data, RBS Earnings forecast changes We make downward revisions to our forecasts, as per the table below. Table 3 : RBS earnings changes FY12F FY13F FY14F (A$m) Previous Revised % change Previous Revised % change Previous Revised % change EBIT % % % NPAT % % % Normalised EPS (c) % % % Reported EPS (c) % % % DPS (c) % % % Source: RBS forecasts Investment view We believe HVN has a strong investment case; however investors risk downside earnings surprises near term. Property assets continue to underpin the valuation, with the lack of smallscale developer activity creating further opportunities for HVN. Sector consolidation remains a medium-term opportunity across most segments. Given the near-term risk to earnings, however, we rate the stock Hold. We lower our target price and valuation to A$1.82 (from A$2.00), reflecting the downgrades to earnings. Our PE and EV/EBIT target multiples are set at a discount to IBES Core Industrial multiples to reflect structural issues in the sector and the potential for downside to HVN earnings. Table 4 : HVN valuation summary Valuation measure Core Industrials multiples (FY13) Target multiple Target price PE $1.52 EV/EBIT $1.55 DCF $2.40 Average $1.82 Source: IBES, RBS estimates Page 4

5 Table 5 : Harvey Norman 3Q12 sales summary System sales (Harvey Norman complexes, commercial divisions and other outlets in Australia, New Zealand, Slovenia and Ireland) 1Q12 2Q11 3Q12 YTD Percentage growth -3.8% -8.2% -8.1% -6.7% Like-for-like growth -3.8% -8.0% -7.5% -6.6% Category performance Electrical Price deflation, WOW Sight & Sound inventory clearance (A$40m) and Dick Smith store closures all impacted GP margin and sales during the quarter. Furthermore, a proportion of A$200m in franchisee account receivables were recovered as franchisee inventory was cleared during the quarter. Computers HVN cleared additional stock (A$35m) as a result of stockpiling in anticipation of supply constraints with Thailand floods. Furniture & Bedding Category has continued to grow revenue during the quarter despite an industry slowdown in the property sector. Australian franchise operation 3Q12 Growth (constant currency) Like-for-like growth (constant currency) -9.2% -7.7% Key takeaways Appliance and white goods performed solidly, with growth in the 3Q, furniture and bedding sales (and GP margins) were steady. AV and computers remained challenging categories. Tactical and clearance discounting should abate in 2H13F Windows 8 release expected in 4Q13, which should help drive some upgrades for Computers. Purchases for FY13 are expected by management to be slightly down yoy, in line with 3Q trading. New Zealand 3Q12 Growth (constant currency) Like-for-like growth (constant currency) -6.6% -7.9% Key takeaways Ongoing weak consumer sentiment has led to the continuation of soft sales in 3Q12 Sales & GP margin remain under pressure, but not to the extent experienced in Australia. A weaker currency is preventing comparatively higher levels of price deflation. Ireland 3Q12 Growth (constant currency) Like-for-like growth (constant currency) 1.3% 1.3% Key takeaways Like-for-like growth (constant currency) of 1.3% for 3Q12 indicates that reported like-for-like growth was flat due to the 5.9% deflation of the EUR/AUD over the pcp. In constant currency terms, the 2H loss should reduce on pcp. This would further reduce reflecting currency translation. Improved momentum in sales, however political issues (particularly French election) may cast general doubt over EU recovery near term. Slovenia 3Q12 Growth (constant currency) Like-for-like growth (constant currency) 9.3% 1.3% Key takeaways Like-for-like growth of -1.3% (constant currency) was affected by the depreciated EUR. New space to drive continued sales growth Company Overview Harvey Norman Holdings (HVN) is a retail company specialising in homewares, furniture, bedding, carpet and flooring, lighting, kitchens and bathrooms, and electrical goods. It operates through Harvey Norman franchises in Australia and company-owned stores in New Zealand. The company also has retail operations in Singapore, Malaysia, Slovenia and Ireland. HVN has a substantial property investment portfolio, including premises leased to HVN franchisees and other third parties. Page 5

6 HVN financial summary Year to 30 Jun (A$m) AIFRS AIFRS AIFRS AIFRS AIFRS Closing price (A$) 2.07 Price target (A$) 1.82 Income statement 2010A 2011A 2012F 2013F 2014F Valuation metrics Divisional sales Preferred methodology Blended valuation Val'n (A$) $ 1.82 Total revenue DCF valuation inputs EBITDA Rf 5.25% 10-year rate 5.25% Depreciation Rm-Rf 6.00% Margin 0.7% EBIT Beta 0.73 Kd 6.00% Net interest expense CAPM (Rf+Beta(Rm-Rf)) 9.6% Ke 9.6% Pre-tax profit E/EV*Ke+D/EV*Kd(1-t) NPV cash flow (A$m) Income tax expense Equity (E/EV) 90.0% Minority interest (A$m) 32.6 After-tax profit Debt (D/EV) 10.0% Net debt (A$m) Minority interests Interest rate 6.00% Investments (A$m) NPAT Tax rate (t) 30.0% Equity market value (A$m) Significant items WACC 9.1% Diluted no. of shares (m) NPAT post abnormals DCF valuation (A$) 2.40 Divisional sales revenue 2010A 2011A 2012F 2013F 2014F Multiples 2011A 2012F 2013F 2014F Franchising Operations Enterprise value (A$m) Property Investments EV/Sales (x) New Zealand EV/EBITDA (x) Asia EV/EBIT (x) Non-Franchised Retail PE (pre-goodwill) (x) Financial Services PEG (pre-goodwill) (x) Slovenia Corporate (Other) At target price 2011A 2012F 2013F 2014F Ireland EV/EBITDA (x) Other Property PE (pre-goodwill) (x) Divisional EBIT 2010A 2011A 2012F 2013F 2014F Comparable company data (x) 2012F 2013F 2014F Franchising Operations Woolworths EV/EBITDA Property Investments Year to 30 Jun EV/EBIT New Zealand PE Asia PEG Non-Franchised Retail JB Hi-Fi EV/EBITDA Financial Services Year to 30 Jun EV/EBIT Slovenia PE Corporate (Other) PEG Ireland Other Property Per share data 2011A 2012F 2013F 2014F Cash flow statement 2010A 2011A 2012F 2013F 2014F No. shares EBITDA EPS (cps) Change in working capital EPS (normalised) (c) Net interest (pd)/rec Dividend per share (c) Taxes paid Dividend payout ratio (%) Other oper cash items Dividend yield (%) Cash flow from ops (1) Capex (2) Growth ratios 2011A 2012F 2013F 2014F Disposals/(acquisitions) Sales growth 10.4% -6.5% -0.5% 5.3% Other investing cash flow Operating cost growth 16.0% -3.5% -1.1% 4.3% Cash flow from invest (3) EBITDA growth -8.3% -19.8% 2.8% 10.4% Incr/(decr) in debt EBITA growth -11.7% -24.1% -1.0% 13.7% Ordinary dividend paid Divisional EBIT growth Other financing cash flow Franchising Operations -15.6% -47.9% -7.1% 13.2% Cash flow from fin (4) Property Investments 22.6% 11.9% 3.3% 0.7% Inc/(decr) cash (1+3+4) New Zealand -12.8% -9.1% 15.2% 6.4% Equity FCF (1+2) Asia 32.0% -22.3% 16.1% 11.8% Non-Franchised Retail % % % 9.0% Balance sheet 2010A 2011A 2012F 2013F 2014F Financial Services 40.9% -40.5% % n.m. Cash & deposits Slovenia 49.4% -70.1% 59.7% 50.9% Trade debtors EBIT growth -11.7% -24.1% -1.0% 13.7% Inventory NPAT growth -12.6% -21.1% -6.4% 14.5% Investments Pre-goodwill NPAT growth -16.6% -21.1% -6.4% 14.5% Goodwill Pre-goodwill EPS growth -16.6% -21.1% -6.4% 14.5% Other intangible assets Normalised EPS growth -16.6% -21.1% -6.4% 14.5% Fixed assets Other assets Operating performance 2011A 2012F 2013F 2014F Total assets Asset turnover (%) Short-term borrowings EBITDA margin (%) Trade payables EBIT margin (%) Long-term borrowings Net profit margin (%) Provisions Return on net assets (%) Other liabilities Net debt (A$m) Total liabilities Net debt/equity (%) Preference shares Net interest/ebit cover (x) Share capital ROIC (%) Retained earnings Other equity Internal liquidity 2011A 2012F 2013F 2014F Total equity Current ratio (x) Minority interest Receivables turnover (x) Total shareholders' equity Payables turnover (x) Page 6

7 QUEENSLAND PARRAMATTA (02) BRISBANE (07) PORT MACQUARIE (02) BUNDABERG (07) SCONE (02) CAIRNS (07) SYDNEY LEVEL 9 (02) CALOUNDRA (07) SYDNEY LEVEL 33 (02) CAPALABA (07) SYDNEY MACQUARIE STREET (02) CHERMSIDE (07) SYDNEY REYNOLDS EQUITIES (02) EDWARD STREET (07) WOLLONGONG (02) EMERALD (07) GLADSTONE (07) ACT GOLD COAST (07) CANBERRA (02) IPSWICH (07) MACKAY (07) VICTORIA MILTON (07) MELBOURNE (03) NOOSA (07) BERWICK (03) REDCLIFFE (07) BRIGHTON (03) ROCKHAMPTON (07) CAMBERWELL (03) SPRING HILL (07) CARLTON (03) SUNSHINE COAST (07) FARRER HOUSE (03) TOOWOOMBA (07) GEELONG (03) TOWNSVILLE (07) RICHMOND (03) YEPPOON (07) SOUTH YARRA (03) TRARALGON (03) NEW SOUTH WALES WARRNAMBOOL (03) SYDNEY (02) ARMIDALE (02) WESTERN AUSTRALIA BALLINA (02) PERTH (08) BALMAIN (02) CHATSWOOD (02) SOUTH AUSTRALIA COFFS HARBOUR (02) ADELAIDE (08) GOSFORD (02) NORWOOD (08) HURSTVILLE (02) MERIMBULA (02) NORTHERN TERRITORY NEUTRAL BAY (02) DARWIN (08) NEWCASTLE (02) NEWPORT (02) TASMANIA ORANGE (02) HOBART (03) DISCLAIMER - RBS MORGANS LIMITED The information contained in this report is general advice only, and is made without consideration of an individual s relevant personal circumstances. RBS Morgans Limited ABN , its related bodies corporate, directors and officers, employees, authorised representatives and agents ( RBS Morgans ) do not accept any liability for the results of any actions taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their RBS Morgans investment adviser before doing so. Those acting upon such information without advice do so entirely at their own risk. This report was prepared as private communication to clients and is not intended for public circulation, publication or for use by any third party. The contents of this report may not be reproduced in whole or in part without the prior written consent of RBS Morgans. While this report is based on information from sources which RBS Morgans believes are reliable, its accuracy and completeness cannot be guaranteed. Any opinions expressed reflect RBS Morgans judgement at this date and are subject to change. RBS Morgans is under no obligation to provide revised assessments in the event of changed circumstances. This report does not constitute an offer or invitation to purchase any securities and should not be relied upon in connection with any contract or commitment whatsoever. DISCLOSURE OF INTEREST RBS Morgans may from time to time hold an interest in any security referred to in this report and may, as principal or agent, sell such interests. RBS Morgans may previously have acted as manager or co-manager of a public offering of any such securities. RBS Morgans' affiliates may provide or have provided banking services or corporate finance to the companies referred to in the report. The knowledge of affiliates concerning such services may not be reflected in this report. RBS Morgans advise that it may earn brokerage, commissions, fees or other benefits and advantages, direct or indirect, in connection with the making of a recommendation or a dealing by a client in these securities. Some or all of our Authorised Representatives may be remunerated wholly or partly by way of commission. RECOMMENDATION STRUCTURE For a full explanation of the recommendation structure, refer to our website at If you no longer wish to receive RBS Morgans publications please advise your local RBS Morgans office or write to RBS Morgans Limited, Reply Paid 202, Brisbane QLD 4001 and include your account details. Page 7