Good Times Roll On For Harvey Norman

This story features HARVEY NORMAN HOLDINGS LIMITED. For more info SHARE ANALYSIS: HVN

Harvey Norman has sustained high rates of sales and profit growth since the start of FY21 and there is little sign of an impending slowdown in household goods expenditure. How long can this continue?

-Reallocation of expenditure an issue for the second half of 2021
-High rates of profit growth signal capital management
-Housing activity the key to prolonging heightened sales
 

By Eva Brocklehurst

As Australians continue to invest in their homes to the detriment of travel, transport and outside entertainment, Harvey Norman ((HVN)) is one of the winners. Consumer expenditure has become heavily skewed to categories such as furniture, bedding and electricals, and to regional locations — areas where Harvey Norman has a strong presence.

All 18 Victorian stores were closed during the stage IV restrictions and have now reopened. Despite this, strong expenditure on household goods endured and is likely to remain elevated throughout FY21, Macquarie suggests. While domestic travel should pick up, international restrictions are unlikely to ease in the short term so home-related expenditure should continue.

Internationally, strength has been evident in Ireland, Slovenia and Croatia with sales impacted in a positive way by the appreciation of the euro. A -4-5% depreciation in the Singapore dollar and Malaysian ringgit meant comparables were down -2% and -4% for Harvey Norman in those regions, respectively. Despite the pandemic, the company opened two new stores in Ireland.

Sales growth at Australian franchises moderated slightly as the first half unfolded but remains extremely strong. Like-for-like sales growth was 30.4% from July to November 21, slightly lower than the 34.5% recorded for July to September 17. Pre-tax profit was up 160% in the first four months of FY21.

Despite government-enforced store closures globally and a reduction in income support, sales growth has proved resilient and Credit Suisse highlights several company updates have disproved fears of a rapid slowdown in expenditure on household goods.

Despite the eventual reallocation of consumer expenditure as economies open amid the probability of widespread distribution of coronavirus vaccine, this remains a second-half of 2021 issue, and the broker suspects some spending patterns, such as on home offices, could be resilient.

Capital Management

The market is struggling to interpret the high rates of profit growth in household goods, Credit Suisse asserts. Yet, this is meaningful for balance sheets and prospective dividends.

Assuming a normal pay-out ratio, Harvey Norman is generating a fully franked dividend yield of 6.7% in FY21 and maintaining next to no net debt. Hence, the broker's suspects the business is on track for a record first half.

Citi agrees outsized Australian earnings are likely to generate significant franking credits and retained income, and while cash levels will normalise with inventory, low funding costs make capital returns highly accretive. The broker expects an off-market share buyback or special dividend at the first half or FY21 results.

UBS upgrades FY21 estimates by 16% but envisages short-term upside risk. Given an attractive valuation the broker reiterates a Buy rating, although the pulling forward of earnings signals fewer medium-term upgrades.

The main catalyst would be capital management given the net cash position and large franking balance. UBS estimates every $100m of a buyback is 1.5% accretive to earnings per share.

Morgan Stanley assesses the -2.5% decline in the stock after the trading update is reflecting a view by the market that this recent boost could be short lived, given the potential for expenditure to shift back to travel.

Can The Good Times Roll Even Further?

To what extent is a buoyant sales period just a pulling forward of demand and will this subsequently slump? Morgan Stanley assesses the -2.5% decline in the stock after the trading update reflects a view by the market that this recent boost could be short-lived, given the potential for expenditure to shift back to travel.

The broker suspects the market is looking through FY21 and concludes the ability to maintain such share of the consumer wallet is uncertain. Morgan Stanley now incorporates underlying pre-tax profit ex property growth of 126% for the first half, and a contraction of -23% in the second half as this will lap a 67% increase.

Ord Minnett suspects the share price decline following the trading update is reflective of "recovery trades" or investors seeking those stocks that will prosper post the pandemic. Still, the broker believes Harvey Norman can remain buoyant for the remainder of 2020 and into 2021.

Citi considers inventory shortages and reduced discounting are the main risks to short-term sales growth as the business will cycle a soft prior festive season and bushfire-affected trading. Nevertheless, Harvey Norman should continue to benefit from s strong housing cycle and this could present upside risk to medium-term forecasts.

UBS, too, bases its view on a better macro outlook amid the build up in household savings and better housing markets. FNArena's database has five Buy ratings and one Hold (Morgan Stanley). The consensus target is $5.09, signalling 7.7% upside to the last share price. The dividend yield on FY21 and FY22 forecasts is 6.3% and 5.2%, respectively.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

FNArena is proud about its track record and past achievements: Ten Years On

Click to view our Glossary of Financial Terms