JB Hi-Fi: Result 2017
Recommendation
Not once was the word ‘Amazon' mentioned on JB Hi-Fi's 2017 results conference call. And yet it was clear that management has been preparing for the American company's arrival. JB Hi-Fi has been spending up big to make sure it's Amazon-ready, with costs in its Australian business rising 9% over the year. For example, 80% of click-and-collect orders are now ready in less than two hours.
Yet, it's hard to escape the conclusion that JB Hi-Fi is making hay while the sun shines. Having despatched Dick Smith in early 2016, the company appears to be letting margins expand while it can: its Australian operating margin rose 0.4% to 6.3% in the period, up from 5.4% five years ago.
Tailwinds from the Dick Smith collapse, house prices and the consumer electronics innovation cycle means the Australian business continues to be an impressive performer. For the year to 30 June 2017, Australian sales rose 11% to $4.2bn while operating profit (earnings before interest and tax) rose 19% to $262m. That's what happens when a fast-growing but low-margin business lets margins expand.
Key Points
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No longer a price leader
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Good Guys boosted sales and earnings
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Amazon looms as a threat
Our research for Amazon and the Aussie hit list – Part 2 indicated that, while JB Hi-Fi might be perceived as a discounter, it no longer is. Perception counts for a lot of course and, on the conference call, management highlighted that ‘customers have a high degree of trust' in the JB Hi-Fi brand. We don't doubt it.
But failing to be price-competitive is either a dangerously weak competitive position – as Woolworths discovered in 2015 – or a cunning plan. Perhaps the company is taking advantage of customer trust now so that it can slash prices once Amazon arrives.
Cloud street
The New Zealand business continues to struggle. Sales were flat and the business made a small loss of $3m, leading the company to write off $16m of assets associated with the division. Management is taking steps to improve the New Zealand business but it's an irritation rather than anything more worrying.
For the seven-month period that JB Hi-Fi owned the 102-store chain The Good Guys, the business produced sales of almost $1.3bn and operating profit of $46m. As we said in JB Hi-Fi: Good Guys, bad buy?, this is a much weaker business than the company's namesake brand. Same-store sales fell 1.3% over the period despite the eastern states housing boom, while the operating margin was 3.7%.
Year to 30 Jun | 2017 | 2016 | /(–) (%) |
---|---|---|---|
Revenue ($m) | 5,628 | 3,955 | 42 |
EBIT ($m) | 306 | 221 | 39 |
NPAT ($m) | 208 | 152 | 37 |
EPS (c) | 186.0 | 151.9 | 22 |
DPS (c) | 118.0 | 100.0 | 18 |
Franking (%) | 100 | 100 | N/a |
* Final div 46 cents, up 24%,100% franked, ex date 24 Aug |
Nevertheless, we expect JB Hi-Fi to improve its performance. The company has ramped up marketing and is shifting The Good Guys brand closer to its original discounter positioning. While still sceptical about the acquisition, it does provide scale and diversification; both will come in handy as Amazon rolls out.
Altogether, helped by the acquisition of The Good Guys, JB Hi-Fi reported sales of $5.6bn, up 42%. Excluding the New Zealand writedown and acquisition costs related to The Good Guys, underlying net profit rose 37% to $208m. Earnings per share rose 22% thanks to dilution associated with the capital raising, while a fully franked dividend of 46 cents was declared, up 24% (ex date 24 Aug).
JB Hi-Fi has started the new financial year strongly, with July same-store sales up 5.8% and 5.7% for the JB Hi-Fi and The Good Guys brands respectively. Management expects a full year of The Good Guys to drive 2018 sales of $6.8bn for both brands. This is a substantial retailer.
Riskier proposition
Of course, size and maturity are not necessarily positive attributes for a specialty retailer. The Good Guys acquisition, the maturity of the store rollout and the threat of Amazon all make JB Hi-Fi a higher risk proposition than a few years ago.
JB Hi-Fi should produce earnings per share of more than $2.00 in 2018, placing the stock on a prospective price-earnings ratio of around 12. Combine that with an underlying free cash flow yield of 6.0% and an enterprise value to sales ratio of less than 0.5 and some might argue the stock is cheap.
But it's not. JB Hi-Fi is the retailer most exposed to Amazon's arrival, and margins might be under threat from 2019 onwards. Of course, some of that negativity is already in the price – the market is arguably factoring in a profit decline of perhaps 25%.
Given the risks, our current price guide is too generous. We're lowering both our Buy and Sell prices, to $15.00 and $30.00 respectively. We're closer to selling than buying at the current price and our suggested maximum portfolio weighting is 4%. This is a riskier business than its history suggests but we're also prepared to allow management some leeway given its record. HOLD.