JB Hi-Fi: Result 2015

On the surface, JB Hi-Fi looks appealing. Listening in to the 2015 final result conference call, it's clear management knows consumer electronics retailing back to front. 'Retail is detail' as they say and one gets the feeling chief executive Richard Murray could – if he so chose – quote you the company's gross margin on the sale of an iPad mini to two decimal places (hint: it's not much).

The 2015 financial year was a good one for JB Hi-Fi (or at least the second half was). The company's expansion into home appliances is proceeding to plan and the gross margin, surprisingly, rose slightly to 21.9%. The company now has 43 JB Hi-Fi Home branded stores – which carry large appliances – and expects to have 75 by 2017 (partly by converting existing stores to the new format).

What really helped drive sales and profits higher in 2015 was a strong finish to the financial year. While the 2014 Federal Budget went down like a tonne of plasma televisions, the 2015 Budget, with its $20,000 accelerated depreciation initiative, saw small businesses spend up big in late May and June.

As a result, JB Hi-Fi's sales for 2015 rose 5% to $3.65bn, with same-store (or comparable) sales for the year up 3%. The second half showed 7.4% same-store sales growth, much better than the -0.7% reported in the first half.

Net profit rose 6% to $137m, with earnings per share up a little more to 138 cents due to the ongoing share buyback program. A fully franked final dividend of 31 cents was declared (ex date 26 Aug), taking the total to 90 cents for the full year.

With July same-store sales up 6%, the 2016 financial year has started well. Management is forecasting sales to rise by about 5% this year. So why are we sticking with our consistently negative view on the stock?

Wider problem

While clever management can help reinvigorate a retailer, JB Hi-Fi's expansion into appliances is symptomatic of a wider problem. JB Hi-Fi's future won't look like its past. The factors that made it successful are beginning to fade.

For example, the store rollout is effectively complete. JB Hi-Fi now has 187 stores and management maintains a target of 214. But that's not a lot of room to grow and the company opened only five stores in each of 2014 and 2015.

The 'software' sales category, which includes products such as music, DVDs and games, is continuing to shift online. Software has fallen from 25% of sales to 17% of sales over the past five years and the decline will certainly continue.

Ultimately this suggests foot traffic will also decline. Lower foot traffic means fewer customers in-store to purchase the company's other products. Eventually, landlords will offer less attractive rental deals than in the past because foot traffic isn't what it was.

Perhaps this will be partly offset by the move into appliance retail but the shift in strategy will have direct and indirect costs. Whereas JB Hi-Fi used not to operate from distribution centres – product was delivered straight to stores – new distribution centres are now operating in most capital cities. This suggests the company's cost of doing business will continue creeping up, as it has over the past five years.

Customer experience

JB Hi-Fi's customer experience will also change. Its crowded, youthful atmosphere will be different now that you can buy appliances in its stores. Will younger customers want to buy the latest headphones in the same store that their parents buys toasters and washing machines?

But perhaps of greatest concern is future management change. Chief executive Richard Murray is the last of the three main architects of JB Hi-Fi's success since its 2003 float. A successor is less obvious than when Terry Smart was in charge. Smart operated as chief operating officer under first chief executive Richard Uechtritz but there's no COO under Murray.

JB Hi-Fi is now a mature retailer. From time to time, external benefits such as the 2015 Budget initiatives, strong housing markets and new product releases will boost sales. The 2015 financial year was such a period.

With the company's strategy in transition and growth harder to come by, difficult periods – such as the first half of the 2015 year – will become more common. While the erosion of its JB Hi-Fi's consumer electronics business will ebb and flow, it will nevertheless accelerate in time.

JB Hi-Fi's share price is up 15% since JB Hi-Fi: Result 2014 from 12 Aug 14 (Avoid – $17.47). While the stock surged after yesterday's result the gains evaporated today as investors sobered up. Even so, today's price suggests a too-rosy future and our recommendation remains AVOID.