Someone forgot to tell the long line of people queuing to buy Pandora jewellery that Australia’s economy is sluggish and that consumers are doing it a little tough.
Shoppers could not get enough of Pandora’s mid-priced charm bracelets and trinkets. Business was almost as brisk at a nearby Michael Hill International jewellery store, and “fast fashion” chain Lovisa Holdings had a procession of girls buying its cheap items.
Welcome to the world of jewellery stocks and the opportunity to pimp-up portfolios with well-chosen small-cap retailers. But beware: some jewellery stocks will inevitably provide more sting than bling and disappoint investors.
Business forecaster IBISWorld said the Australian watch and jewellery retail industry had 2.8 per cent annualised growth over 2012-17. Increased spending on luxury goods, particularly by wealthy tourists, has boosted jewellery retailers.
Some savvy jewellery retailers are benefiting from the trend of “mass-market luxury”. That is, consumers wanting fancier clothes, jewellery, cosmetics, food and travel – without the price tag. Low- and mid-priced jewellery perfectly fit the bill.
But has growth in jewellery retailing peaked? Sales are up but industry profitability has fallen over the past five years, says IBISWorld. Rising rents at shopping centres and greater competition from foreign retailers, such as Pandora and Tiffany & Co, have hurt margins.
A lower Australian dollar has pushed up the price of jewellery imports for retailers and declining consumer sentiment is another headwind. IBISWorld expects annualised industry growth to slow from 2.8 per cent to 1.7 per cent over 2017-22.
The business forecaster wrote in 2016: “Despite the short-term weakness … the (jewellery) industry is expected to continue its long-term growth trajectory over the next five years. Jewellery chains are likely to continue to expand throughout Australia over this period, benefiting from their greater economies of scale and brand awareness.”
Growth in jewellery retailing has attracted several newcomers to ASX. Lovisa Holdings listed on ASX in November 2014 through a $102 million IPO at $2 a share. Lovisa soared to $3.70 within two years of listing, then crashed to $2 after a nasty earnings downgrade.
It has recovered to $3.82 after disclosing in a December trading update good same-stores sales growth and higher-than-expected margins. The appointment in October of Steven Doyle has strengthened Lovisa’s management team as the business expands offshore.
Chart 1: Lovisa HoldingsSource: The Bull
Long-term readers will recall I covered Lovisa favourably for The Bull in September 2015, when it traded at $3.37. I wrote: “Lovisa is no Smiggle (owned by Premier Investments). But there’s a lot to like about its retail concept, management, international store rollout, and potential for a larger Northern Hemisphere expansion sooner than the market anticipates.
I added: “Lovisa is a candidate for a bigger share-price pullback or consolidation in this market correction, given its post-listing gains. A share price closer to $3 would look interesting as the market starts to factor in earnings upside from Northern Hemisphere expansion later this year, when more news is provided.”
The correction dutifully came, but the extent of Lovisa’s share-price fall surprised. The market overreacted, a point I made in subsequent The Bull columns. Like many IPOs, Lovisa was smashed at the first sign of earnings disappointment.
My core thesis for Lovisa remains intact. The retailer has a strong customer value proposition as teenagers and twentysomething girls favour cheap, disposable jewellery (the average Lovisa item is about $20). The same trend is apparent in clothing.
Lovisa’s offshore growth prospects are another attraction. The retailer’s international sales grew 41 per cent to $45 million in FY16 and last year it started rolling out stores in the United Kingdom, after a successful pilot program.
Macquarie Equities has an outperform recommendation on Lovisa and a $4.44 share-price target over 12 months. It forecasts 45 Lovisa stories in the UK and says the retailer has “capacity to roll out many more than this in time. As such, we see potential for medium to long-term upside as confidence in the UK opportunity grows.”
Like Lovisa, Michael Hill International had a strong start after listing on ASX. The New Zealand-based retailer dual-listed on ASX at $1.05 a share in July 2016. After peaking at $1.82, it has drifted to $1.24.
Chart 2: Michael Hill InternationalSource: The Bull
Michael Hill continues to grow impressively in New Zealand and deliver solid gains in Australia. The Canadian operation is performing well, but the United States division is not meeting the company’s expectation. The company’s Emma & Roe concept, a bit like Pandora with its charm bracelets, could become a bigger contributor to Michael Hill’s growth, given its low-capital/high-margin model. Up to 200 store locations in Australasia and 100 in Canada have been identified.
I like Michael Hill’s medium-term growth prospects. The company has multiple growth engines across different products lines and markets. The Emma & Roe concept looks like a winner, although it is early days for the brand. Settlement this year of a long-running dispute with the New Zealand Commissioner of Inland Revenue is another positive for Michael Hill.
Share-valuation service Skaffold values Michael Hill International at $1.36 a share in 2017, rising to $1.52 in 2018 and $1.81 in 2019. That suggests the retailer is slightly undervalued at the current $1.24.
A forecast FY18 Price Earnings (PE) ratio of 11.5 times is not demanding for a retailer with a rapidly growing international footprint and several growth engines.
Michael Hill looks the pick of the jewellery retailers at current prices. Prospective investors should keep a close eye on the retailer’s next trading update (due January 9). It will give critical information on the all-important Christmas trading season.
Speculators might also follow backdoor- listing Plukka. The industry disrupter connects fine jewellery designers with consumers worldwide. Plukka had a difficult 2016 and changed its strategy to focus more on online sales and reduce its cost base.
Tony Featherstone is a former managing editor of BRW and Shares magazines. The information in this article should not be considered personal advice. The article has been prepared without considering your objectives, financial situation or needs. Before acting on the information in this article you should consider its appropriateness regarding your objectives, financial situation and needs. Do further research of your own or seek personal financial advice from a licensed adviser before making any financial or investment decisions based on this article. All prices and analysis at January 4, 2017.