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The technique of profiting from a price fall is called short-selling, otherwise known as “shorting,” “to go short” or simply “short.” Basically, short-selling is the reverse of how we’re traditionally taught to invest, to buy at the lowest possible price and sell at the highest. When shorting, you aim to jump in at a high and out at a low – with the sequence of events also in reverse, since you sell first and buy back afterwards. Indeed, as confusing as it sounds, this involves selling something that you don’t already own.

Top 10 shorted stocks hit hard this week

The top ten shorted stocks on the ASX have all been steadily sliding for months now, although to be fair the Aussie market sits at an 11-month low so there are few stocks that can boast stellar gains. However the shorters do seem to know what they’re on about – nine out of the ten shorted stocks were lower this week, with only Aristocrat (ALL) making a gain because some massive trades went through earlier in the week at above the market price. The trades were worth some $32 million and represented 2.5% of total shares; it seems someone wanted to get in quickly. ALL was one of only three out of the ten stocks that outperformed the ASX200 index this week.

To add further weight to the shorters insight, David Jones had been one of the top three shorted stocks for weeks before its shock earnings announcement sent the share price plunging 18% in a single day. DJS lost a further 6% this week, to be down 37.6% over the past three months. Likewise Fairfax, which has taken out one of the top two spots for some time now, has been hammered, losing almost 40% of its value in the past six months.

Today we’re looking at JB Hi-Fi, which took the title of the no.1 shorted stock on the ASX from Fairfax in early June. After months of a sliding share price does it still deserve the title of the no.1 shorted stock on the ASX? Having lost 20% in the past two months, has it hit a bottom or is there worse to come?

 Position

 Last week

 Company

 Stock Code

 % of shorts

 Share Price

 Weekly Change

 % Change

 1

 1

 JB Hi Fi

 JBH

17.38%

$15.00

-$0.74

 -4.7%

 2

 2

 Fairfax

 FXJ

12.46%

 $0.88

 -$0.055

 -5.9%

 3

 5

 Gunns

 GNS

7.81%

 $0.25

-$0.02

-7.4%

 4

 4

 Billabong

 BBG

7.79%

$5.89

-$0.18

-3.0%

 5

 3

 David Jones

 DJS

6.87%

 $3.00

-$0.19

-6.0%

 6

 6

 Perpetual

 PPT

6.28%

 $23.58

-$1.18

-4.8%

 7

 7

 Boral

 BLD

5.44%

 $4.17

-$0.12

-2.8%

 8

 8

 Aristocrat

 ALL

5.31%

 $2.44

 +$0.08

+3.4%

 9

 11

 James Hardie

 JHX

5.26%

 $5.73

-$0.23

-3.9%

 10

 9

 Wotif.com

 WTF

4.84%

 $4.60

-$0.24

-5.0%

 

 

 ASX200

 XJO

 

 4424.60

 4602.90

-3.9%

 

Does JB Hi-Fi deserve the title of the no.1 shorted stock?

Consumer staples are generally said to be defensive because their earnings tend to hold up in challenging times – shoppers still have to buy life’s necessities. In contrast, the earnings of discretionary retailers like JB Hi-Fi  suffer in response to higher interest rates, general price rises and higher utility charges.

JB Hi Fi faces additional pressures and a big one is competition from overseas shops via the Internet, courtesy of a strong Australian dollar. The flipside of this is that as an importer with limited overseas exposure JBH should do well as the Aussie dollar stays strong.

Times are tough for retailers. David Jones, Myer, Harvey Norman and JB Hi-Fi are facing a new breed of thrifty consumers. It comes as little surpise that inflation-adjusted growth in retail sales for the current fiscal year will come in at 1.3% – the worst performance in 20 years, according to Deloitte Access Economics.  However, in 2011/2012, Deloitte expect growth of 2.2% followed by 3.3% growth in 2012/2013.

However despite its share price performance, the electronics giant is one consumer discretionary stock that continues to perform well on paper despite higher interest rates and increasing cost of living charges. The company’s business model has proven to be sound, with JB Hi-Fi booking a first half 2011 NPAT rise of 15.6 per cent to $87.9 million. Sales of $1.68 billion were up 8.3 per cent on the previous corresponding period. And some brokers think that the company may even surprise at its August profit announcement.

Like other successful mid-cap stocks, JB Hi-Fi is in the process of moving from a pure growth stock to a growth and income stock. In fact, some analysts believe the company has potential for higher dividends over time as its earnings grow, notwithstanding the current bout of retail weakness as cautious consumers save more and spend less.

Most small and mid-cap retailers pay low dividends because they reinvest cash into the business to speed growth. JB Hi-Fi’s dividend per share rose from 7.2 cents in 2003-04 to 66 cents in 2009-10. And before David Jones’s shock announcement that rocked the sector, the current yield of 3.7 per cent, fully franked, was expected to rise to 4.2% in 2010-11 and 4.9 in 2011-12 based on consensus analyst forecasts.

In theory, JB Hi-Fi’s yield should be a good buffer if growth slows, and it has a strong balance sheet. A forecast price-earnings ratio (PE) of 12.5 times in 2011-12 looks interesting for such a well-run retailer with an excellent market position and scope for more growth through new stores. All this retail gloom might create a long-term buying opportunity, although any more bad news coupled with all the pressure exerted by the shorters may mean that there is still some way to go.

Broker calls

John Rawicki, State One Stockbroking currently has a hold on the retailer, saying that it’s hard to bet against JBH given its recent track record (not a sentiment shared by the shorters). However he warns that a slow down in discretionary spending on large ticket items, such as flat screen TVs, would have a major impact on store revenues despite its current rapid growth via an aggressive store roll-out program. ‘The business has proven to be very resilient, trading strongly throughout the global financial crisis and it should ride out the current wave of volatility,’ says Rawicki.

Other brokers are more bullish on JBH. Although Merrill Lynch recently reduced its price target from $21.50 to $19.50, this is still a 30% premium to the current share price. It has retained a buy on the stock, saying that JBH is its preferred consumer discretionary stock and believes that it may surprise with its August results, which may result in a spike as investors pile back in and some of the shorting is removed.

Steven Hing of Zodiac Securities also picks JBH as one his top five stocks in the consumer discretionary sector, saying that it has been a solid growth story since listing in 2003. “The company should benefit from a strong Australian dollar,” Hing says. “The business is resilient, with demand for consumer electronics remaining high. Short-term price weakness can present an opportunity to buy well-managed companies with good long-term fundamentals. And JB Hi-Fi is one of them.”

According to Thomson Reuters data, six brokers have buys on JBH, five have outperforms, five have holds, with just two underperforms and no sells.

Financials

Recently TheBull PREMIUM’s Bob Kohut ran through JBH’s financials, comparing them against Kathmandu and Thorn Group.

Profitability Ratios/Dividend Yields

  JBH KMD TGA
ROE (Return on Equity) 41.0 13.76 24.93
ROA (Return on Assets) 12.86 10.0 14.43
Dividend Yield 4.3 3.2 4.5

 

Bob pointed out that while KMD is clearly the trailer here, the numbers for all three companies show how businesses can remain profitable even during economic downturns.  Despite weaker than expected consumer discretionary spending, all three companies managed to maintain a dividend and shareholders of JBH saw an impressive ROE performance.

Liquidity and Debt Ratios

Bob also noted that JBH’s quick ratio of .32 looked troublesome, but when compared to the sector average it appeared to be less of an issue.

  JBH KMD TGA Sector
Current Ratio 1.25 1.77 1.25 1.62
Quick Ratio .32 1.45 1.25 .5
Debt to Equity 9.85 34.25 37.89 N/A

 

Market Valuation Ratios

None of the market valuation ratios indicated that JBH was overpriced from a value investing perspective, which the PEG showing that it may even be undervalued. 

  JBH KMD TGA Sector
Price to Earnings (P/E) 13.52 20.71 10.87 12.14
Price to Earnings Growth (PEG) .85 .04 .55 1.19
Price to Book (P/B) 6.10 1.74 2.85 2.23
Price to Sales (P/S) 1.19 23.39 1.61 1.19

 

Year over Year (YOY) Performance

JBH has had a long history of solid performance and in every category listed below JBH has grown each year over the past five years, even in the period immediately following the GFC.  The ‘% Change’ column represents the change between 2009 and 2010. :

  2006 2007 2008 2009 2010 %Change
Revenue 945.8$m 1218.8$m 1828.6$m 2327.3$m 2731.3$m +17.4
Net Profit after Taxes (NPAT) 25.8$m 40.4$m 65.1$m 94.4$m 118.7$m +25.6
Earnings per Share (EPS) 25cps 38cps 61.8cps 88.3cps 109.7cps +24.3

 

Outlook

From our numbers analysis JBH looks good based on historical performance, however as Bob pointed out discount retailing puts enormous pressure on margins due to the lower pricing. On top of this margin pressure the outlook for retail is far from rosy, with consumers simply not spending. Should the situation worsen, then retail stocks such as JBH are likely to experience further pain, with only the shorters set to gain. 

Despite the headwinds faced by JBH, analysts are still bullish on the stock, pointing to the company’s stellar past performance even through the GFC and its focus on expansion and improving margins. 

And JB Hi-Fi is expanding, adding 18 more stores in 2011 and approximately 13 to 15 stores per year through the next five years. However this is not the only way it intends to increase revenue. JB Hi-Fi plans to increase profitability at existing stores by focussing on higher margin items, with a training program in place to do this.

However retailers are facing strong headwinds, shorters continue to exert downward pressure on the stock and any more bad news is likely to see the share price drop further. The question is not so much if this is a quality company that knows how to produce the goods, but whether it can produce a turnaround significant enough to shift investor sentiment – and shake off the shorters. If investors can withstand short term volatility, brokers seem to believe that this is a stock for the long term and that current prices may present a good buying opportunity. Having said that, you would have to be a brave soul to bet against the shorters and get on board right now.

>>Back to the newsletter to view other articles – July 30th 2011

 

Please note that TheBull.com.au simply publishes broker recommendations on this page. The publication of these recommendations does not in any way constitute a recommendation on the part of TheBull.com.au.You should seek professional advice before making any investment decisions.