Few things seem more addictive for young girls than brightly coloured stationery. Try getting one out of a Smiggle store in under 15 minutes when they are high on perfumed pencils, sharpeners, fancy notebooks, rulers and other quirky items.
It is torture for parents who have to wait while their children check out every item in the shop (I’ve been there many times!), and great news for Smiggle’s owner, Premier Investments. In fact, Smiggle’s outstanding overseas growth prospects are the main reason Premier is flying high.
It rallied from a 52-week low of $8.01 to $12.66, a terrific result for any stock and especially for one in the challenged retail sector. Low consumer confidence, rising unemployment and record-low wages growth are an awful backdrop for retail sales growth.
Premier also owns the Just Jeans, Jay Jays, Portmans, Jacqui E, Dotti and Peter Alexander retail chains. Smiggle and Peter Alexander, expected to contribute about 29 per cent of FY15 revenue, are growth engines. The other brands are mature and have weaker prospects.
Investment bank UBS estimates Smiggle will contribute 26 per cent of Premier’s FY15 earnings before interest and tax (EBIT). By FY20, Smiggle is forecast to provide 38 per cent of Premier’s EBIT as its store network grows.
It’s been a remarkable transformation. In FY08, the core brands accounted for 95 per cent of Premier EBIT; by FY25, they will contribute only a third, predicts UBS. Clearly, the market is betting on rapid growth in Smiggle and, to a lesser extent, Peter Alexander.
The first-half FY15 result did not disappoint. Premier reported net profit of $56.8 million, up 9.1 per cent on the same time last year, and slightly below consensus estimates. A 9 cent per share special dividend was well received and the overall result was of higher quality than most discretionary retailers in this subdued climate. The share price spiked on the result.
Chart 1: Premier Investments
Smiggle’s international operations stood out. Premier said results from Smiggle in the United Kindgom exceeded expectations. Fifteen of its top 20 Smiggle stores globally are in the UK and it is represented in four of the top 10 centres in England.
Early results give confidence that Smiggle will reach Premier’s target of 200 stores and sales of $200 million in the UK over five years. Another 14 stores are expected to open in calendar-year 2015 and Premier says negotiations are underway for a further 40 stores.
As an aside, what is it with Australian small- and mid-cap stocks and the UK? As the Federal Government talks up the potential of Asia, companies such as Premier and law firm Slater & Gordon are going gangbusters in the UK and more are expected to follow.
Smiggle also has 19 stores trading in Singapore, which it says is a “very profitable market”. Smiggle is an obvious fit with young Asian children, mostly girls, who cannot get enough of its products. Premier says Smiggle Singapore continues to be a significant profit driver.
UBS this week hypothesised whether 1500 Smiggle stores are possible worldwide. Its base case is Premier lifting the Smiggle network from 177 to about 450 stores by FY25. It says store numbers could jump to around 1000 if the rollout in Western Europe and Asia is successful, and argues 1500 stores is possible, but gives low probability to such an aggressive rollout.
The takeout is Smiggle has potential to surprise the market with faster-than-expected store growth, and higher gross margins. It is well on the way to being one of Australia’s great retail exports, and a much larger contributor to Premier Retail’s profits.
Peter Alexander, too, is growing nicely. Rising demand for fancy pyjames underpinned eight store openings in the first half of FY15. Another five stores are planned in the second half. New Zealand sales growth of 28 per cent was a highlight.
The core brands, too, are collectively showing signs of stabilisation. Although Smiggle gets most attention from analysts, the core brands will still deliver the bulk of EBIT for the next few years, on UBS forecasts. Their like-for-like sale growth, in the low single digits, is outperforming the broader fashion category, which has slightly negative year-on-year growth. Clever product mixes and supplier-sourcing strategies are offsetting weak retail growth and a fickle market.
Always look for companies that outperform in weak markets. Too often, companies are praised when growing strongly in a hot sector, and criticised when growth stalls in a weak market. Companies like Premier, which go against the trend, stand out.
However, Premier’s quality and prospects are captured in the current share price. It looks fully valued after the share-price rally, but should have a prime spot on portfolio watchlists in anticipation of an overdue correction. Premier would look a lot more interesting closer to $11.
UBS has a 12-month target of $12.15 and a neutral recommendation. Macquarie Wealth Management also has a neutral recommendation and a $12.25 target. Morningstar’s fair value is $11. Six of 15 brokers have a hold recommendation, four have an underperform, and five have a buy or strong buy recommendation, according to Thomson/First Call consensus analyst estimates.
The hold recommendation looks right. Smiggle is a great business, but plenty can go wrong in international store roll-outs and the current price leaves little room for error. Domestically, the big discount stores are increasing their upmarket stationery supplies, presumably to cut into Smiggle’s market share. They are a considerable threat, given young children are arguably more attracted to the product than the brand.
The impressive Peter Alexander chain is an obvious target for greater online competition in coming years. Premier Retail is doing a good job with online sales, but one wonders if $60 pyjamas will have the same appeal in a weakening economy, when cheaper versions are available online.
In the core brands, it is hard to see much joy for jeans and women fashion as the economy slows. Another interest-rate cut or two might help at the margin, but don’t expect a small rate cut or two in 2015 to make a big difference, given rates are already at record lows.
Investors need to watch and wait for better value in the well-run Premier. I’m betting Smiggle will grow faster than the market expects, that Peter Alexander will maintain its growth trajectory, and that the core brands will grind higher as the economy slowly improves in 2016-17. But Premier has run too far, too fast, for now.
Tony Featherstone is a former managing editor of BRW and Shares magazines. The column does not imply any stock recommendations. Readers should do further research of their own or talk to their adviser before acting on themes in this article. All prices and analysis at March 25, 2015.