Small Caps | Jul 08 2020
Fashion jewellery is likely to remain relatively low on the list of consumer purchases for now but, over the longer term, Lovisa is considered well placed for a recovery in demand.
-Demand for young fashion jewellery likely to remain low in the short term
-Spain a reminder of the risks of entering new markets
-Acceleration of the international roll-out may increase cash requirements
By Eva Brocklehurst
Fashion jewellery retailer Lovisa Holdings ((LOV)) has managed to withstand the damage to sales caused by the closure of stores globally during much of the June quarter, largely because of a strong balance sheet.
Nevertheless, several brokers suggest fashion jewellery is likely to remain fairly low in the hierarchy of purchases consumers undertake as retail businesses start to re-open. Lovisa stores have completely re-opened, beginning in mid April for the Australian chain and with the UK the last to re-open in late June. Spain is the exception, where the company has chosen to exit the market.
Spain was an underperforming pilot comprising nine stores and Bell Potter is not surprised by the decision. Macquarie, too, had already considered an exit likely and is not worried, given the larger opportunities in other markets. However, Citi suspects this may mean that the Lovisa concept will not work in as many markets as previously anticipated, and is a reminder of the risks entering new markets.
Second half sales were down -37%, reflecting the impact of the pandemic on shopping centre traffic as as well as the fact international stores were closed from the majority of the quarter.
As stores re-opened progressively late in the second half, Lovisa was able to beat many estimates for FY20 sales, which, for company-owned stores, came in around $237m. Still, since stores have re-opened, like-for-like sales are down -32.5% year on year as foot traffic has been weak.
Shopping Centre Exposure
Macquarie points out Lovisa is heavily exposed to foot traffic, as opposed to online, and the pandemic has reduced the number of events for which jewellery purchases are likely to be made.
This is also the factor that underpins Citi's estimates for like-for-like sales, expected to decline in the first half of FY21 by -14%. Demand for costume jewellery will be affected by the prevalence of a younger demographic amongst the company's customer base, and they have a relatively higher chance of being unemployed when JobKeeper subsidies are removed.
Lovisa is also reliant on shopping centre traffic and this is under fire as consumers switch more to online purchases. Hence, Lovisa may need to spend more on marketing. Morgan Stanley also expects the fashion jewellery category will lag the rest of the retail sector in terms of a recovery.
Discussions with landlords will be a key factor for FY21 and an indicator of when the rolling out of stores will recommence. Bell Potter observes discussions are well in train in Australasia but are moving more slowly offshore. Morgans anticipates Lovisa extracting improved rental terms over time, particularly in Australasia, but Citi believes landlords will be slow to offer the type of deals Lovisa is likely to require.
Morgans remains satisfied with the net cash position, which was well ahead of forecasts. The better performance reflected trading terms from suppliers, no new stock orders and rental abatements.
A timeframe for a sales recovery is hard to predict but the broker does not believe the impact of the pandemic will endure, while the global roll-out potential is unchanged. That said, Morgans acknowledges a sales recovery is likely to be slower compared with some other domestic retailers. Earnings are expected return to FY19 levels in FY22 but with a narrower margin of 17.6% versus 21%.
Macquarie agrees the stock has value in the longer term but lacks conviction regarding the trajectory or timing of a recovery. Still, there is sufficient liquidity to fund operations despite the headwinds to revenue.
Lovisa has avoided an equity raising but acceleration of the international roll-out could increase cash requirements, Citi points out, although this could be funded by lower dividends. The broker highlights the company does not have a pay-out target.
Bell Potter, not one of the seven stockbrokers monitored daily on the FNArena database, improves risk parameters used in its valuation, given the strong balance sheet, and retains a Buy rating with a $7.50 target. The database has one Buy (Morgans) rating, two Hold and one Sell (Citi). The consensus target is $6.60, suggesting -4.7% downside to the last share price. Targets range from $5.75 (Citi) to $8.14 (Morgans).
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