Australia | Feb 13 2019
Despite a strong approach to category management and continued cost savings, the outlook for JB Hi-Fi is affected by a weaker housing market and ever-rising online sales.
-Resilient earnings profile and attractive dividend yield
-Soft sales noted for The Good Guys in January
-Can innovation offset the disruption caused by increased online sales
By Eva Brocklehurst
While reporting a solid first half result JB Hi-Fi ((JBH)) has noted sales are becoming more volatile and consumers more intent on taking advantage of promotions and events. The company has also noted the November sales period is becoming more active, because of online events such as Black Friday. This has led, UBS believes, to reduced visibility in the outlook.
Moderating housing and the flow-on effect on consumer spending and mounting competition from Amazon as more brands come online, as well as potential new entrants in appliances, muddies the water further. Hence, the broker observes management's tone was more cautious than usual. UBS lifts forecast by 1-2% over FY19-21 and considers the risk/reward balanced, retaining a Neutral rating.
Morgans believes a modest growth profile is factored into the stock and flags a strong chance for the payout ratio to be lifted in coming years, as solid cash generation allows the business to retire debt relatively quickly.
Guidance for FY19 has been provided for the first time, with net profit estimated at $237-245m. Ord Minnett calculates this requires only a 2% rise in earnings (EBIT) in the second half to achieve the high-end of the range. While trading in the second half has started off soft, the broker is confident the company's approach to category management and cost savings will stand it in good stead.
Ord Minnett agrees the external environment, with low consumer confidence and a weakening housing market, is a challenge, but highlights a resilient earnings profile and attractive dividend yield. Deutsche Bank is more circumspect, noting like-for-like sales growth in the core JB Hi-Fi business has slowed to a level that makes operating de-leverage difficult to avoid.
The broker also points out The Good Guys sales were very soft in January, unusual considering there should have been some benefit from sales of air-conditioners during the heatwave. This is attributed to weakness in consumer confidence, which is not expected to improve in the short to medium term.
Morgan Stanley considers FY19 guidance is conservative, even given a difficult consumer environment. The broker also points to sustained earnings growth of 4.5% in the half-year and like-for-like sales growth of 2.8% in the second quarter.
There are several reasons to be cautious, Citi asserts. Cost reductions are being limited by efficiency and higher wage rates, and sales momentum is slowing. The second half will also cycle the FIFA World Cup in the fourth quarter, which the broker estimates is a -40 basis points headwind to growth.
The Good Guys V JB Hi-Fi Australia
First half net profit was ahead of many estimates because of higher earnings from The Good Guys chain. While The Good Guys has been a difficult acquisition for JB Hi-Fi so far, margin pressures have now eased and brokers envisage initiatives around format and range will help to withstand the external environment.
The target of $500m per annum through both organic and strategic acquisitions remains in place and JB Hi-Fi has reiterated a prior group sales target of $7.1bn. Within this, Macquarie points out, JB Hi-Fi Australia is weaker, offset by additional sales in New Zealand.
Morgan Stanley believes JB Hi-Fi can continue to win market share and expand its profitability as it operates with a low-cost-to-sales ratio and has invested heavily in its online offering. Meanwhile, The Good Guys appears to have stabilised in terms of margins which are now improving on a sequential basis. This should drive near-term earnings growth as that business cycles a difficult period.
Citi does not believe margins at The Good Guys will recover completely in the second half, despite a more rational competitive environment. This is primarily because of a return to intense price competition in large appliances.
Credit Suisse blames the muted share price reaction on quality issues and the implied downgrade to JB Hi-Fi Australia earnings in the second half, calculating that, if guidance reflects expectations that The Good Guys earnings have improved, then the corollary is a drop in earnings at JB Hi-Fi Australia. Hence, the opening of five stores in FY19 appears odd to the broker, given the very low rate of sales growth being generated from stores.
Disruption Or Innovation
Credit Suisse also defends its Underperform rating, despite consistent sales growth, by outlining a view that small consumer electronics is one of the most vulnerable categories to online disruption and the company is unlikely to generate a similar profit from such sales as has been historically the case from stores.
Furthermore, falling transaction costs support disaggregation of consumer purchasing and reduces the sustainability of the company's pricing model. Hence, Credit Suisse believes JB Hi-Fi is likely to need to re-set prices significantly, reducing gross profit.
Macquarie is much more positive, believing the business is executing well, and noting the company's solutions business recorded double-digit sales growth. Product innovation is very positive too, with game software, wireless headphones, fitness trackers and home automation/security contributing to growth. Nevertheless, the broker acknowledges software sales continue to decline, dropping -5.6% in the half.
FNArena's database shows three Buy ratings, three Hold and two Sell for JB Hi-Fi. The consensus target is $24.74, signalling 5.2% upside to the last share price. Targets range from $21.10 (Citi) to $28.80 (Macquarie). The dividend yield on FY19 and FY20 forecasts is 5.9% and 5.7% respectively.
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