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Will Next fall out of fashion?

The UK retail sector has seen a number of significant outperformers and underperformers over the past few years with the difficulties of Marks and Spencer being among some of the most well documented, as UK consumers increasingly focus on not only style and value, but also on the on-line value that comes with a decent web based offering.

Most people are familiar with Next Directory which has driven most of the growth in high street retailer Next’s explosive share price rise in the last few years as it looks to rival Marks and Spencer as one of the UK’s most popular clothing retailers. This week’s full year results are likely to paint a picture of decent profit growth year on year, however the biggest concern remains around the outlook given that we are looking at a possible slowdown in to 2016.

Next hasn’t been alone in seeing significant growth in the UK market, we’ve also seen the emergence of brands like Zara, Massimo Dutti, owned by Spanish retail giant Inditex, Swedish owned H&M, as well as Primark, owned by Associated British Foods.

In its most recent results Zara owner Inditex confirmed its status as one of the success stories of recent years by showing a significant improvement in profits for the most recent tax year, with pre-tax profits of €3.74bn, on sales of €20.9bn.

The company also announced its plans to open over 400 new stores in areas as diverse as Nicaragua New Zealand and Vietnam, with the total store count edging over the 7,000 level.

Given recent share price growth, the shares are up over 350% since 2009 the big question is whether the current momentum can continue. We have seen some evidence that the share price is slowing having slipped back from peaks of €35.75 at the end of last year, and with forward earnings projected at over double some of its peers, it remains to be seen as to whether the current valuation is a little on the high side, trading as it does at 32 times. 

A fall below €27 could see a period of consolidation start to play out as investors weigh up whether the current growth glide path can be maintained.

Sweden’s H&M’s the world’s second biggest fashion retailer behind Inditex has seen its share price underperform relative to its peers since 2009, up just over 80% and truth be told has had more of a bumpy ride in terms of share price performance in that regard.

The company has cited the strength of the US dollar as a headwind for its underperformance in terms of quarterly margins, and certainly the weakness of the Swedish Krone in the last three years would suggest that there is some substance to that argument given it is down over 20% against not only the US dollar, but also the Swiss franc and the pound.

In its most recent trading update sales growth missed forecasts, with the company blaming the warmer weather between December and February for the slowdown.

Next on the other hand has seen its share price perform more in line with Inditex as its own shares have seen gains in excess of 300% since 2009. Even though it trades on a P/E of 15, helped by a number of share buybacks, over half of the Inditex number, there is some concern that we could well see a slowdown in UK retail sales growth over the next 12 months which could well hit its margins at a time of some evidence of a slight slowdown in UK consumer spending.

In January the company warned of the effect of the warmer UK weather on a slightly disappointing set of pre-Christmas numbers, though its Directory arm continued to do well.

At the same time the company said it expected annual pre-tax profits to come in at £817m, on estimated revenues of £4.15bn. The company will also have to continue to factor in the cumulative cost of the living wage changes, starting in April 2016, which looks set to add to the retailer’s costs in an extremely competitive market space.

The payment of special dividends or share buybacks has been a regular feature of recent history for Next with a number of payments to shareholders over the last twelve months, which has helped support the share price.

Expectations are for a dividend yield of 6% over the next 12 months on an expected dividend cover of 1.1, which suggests that if there are any negative surprises due to uncertainty over this summer’s Brexit vote, this expectation could be a little on the high side.

The material (whether or not it states any opinions) is for general information purposes only, and does not take into account your personal circumstances or objectives. Nothing in this material is (or should be considered to be) financial, investment or other advice on which reliance should be placed. No opinion given in the material constitutes a recommendation by CMC Markets or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person.

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