Ho Ho Harvey Norman

This story features HARVEY NORMAN HOLDINGS LIMITED. For more info SHARE ANALYSIS: HVN



By Andrew Nelson

Retailer Harvey Norman ((HVN)) came out yesterday and said that sales from its franchised stores were up 7.7% over the last five months and that it now expects first half profit to increase by more than 40%. Chairman Gerry Harvey chimed in with the good cheer, saying he expected a good Christmas not just for Harvey Norman, but for the whole sector, with rising consumer confidence coming through to boost sales.

In fact, it would be hard to find anyone as full of Christmas cheer as Mr Harvey, who said he was “flabbergasted” that sales are as good as they are.

“Our sales this year are going to be an absolute record, this is going to be the biggest Christmas we have ever had, we are going to break all records,” he announced to the nation during a Nine Network TV interview.

The statement from the company that followed Mr Harvey’s appearance indicated that Harvey Norman’s franchised Australian stores had sales of $1.93bn from July until last Sunday. This was a 7.7% increase on the previous corresponding period. Like-for-like sales in the same period were 5.9% higher.

Given the retailer – which has operations in Australia, New Zealand, Slovenia, Ireland and South East Asia – previously reported that sales for the three months to September 30 rose just 4.3%, the reaction from Australia’s broker community, while not quite as upbeat as the company’s chairman, was still pretty upbeat about the news for the most part.

The stock rates a 0.1 reading on the FNArena Sentiment Indicator based on 2 Buys, 5 Holds and 1 Sell. That one Sell is held by Macquarie and analysts there are pretty much the one exception to the overall positive reaction. In a word, sceptical sums up their response. The broker notes that Harvey Norman has a “habit of conducting its investor relations communications through the media”.

Macquarie points out that the 40% growth claim compares to a previous 1H that included a revaluation decrement of $5.5m and an impairment charge of $17.6m. After adjusting for these known anomalies, it looks to the broker that the company is actually guiding to a 22% increase in 1H10 profit before tax. But even so, how do you get a 22% increase in profit before tax from just a 7.7% increase in sales from around 70% of the business, wonders the broker.

It’s not that Macquarie sees it all as hogwash, the broker noting that trade feedback seems to confirm the last week in October saw some of the biggest sales figures on record. A big boost is coming from major brand flat panel TV suppliers, who pretty much as a whole are offering bonus items such as a free game console, an extra smaller size flat panel and other various gifts in an effort to win market share. This is not only helping the bottom line in terms of TV sales, but also allows retailers to sell a lager number of higher margin accessories, notes the broker.

Yet it’s still not enough to convince Macquarie, who thinks the real reason is either that Ireland, which lost $34m in 1H09, is now tracking a smaller loss, or maybe there is a revaluation increment from the property book, or possibly a combination of both. If it’s Ireland, says the broker, then all the company is doing now is cannibalising an expected 25% growth rate from FY11 by pulling it into FY10.

Analysts at Morgan Stanley (Hold rating) are also a little bit suspicious, noting the company hadn’t bothered to provide an earnings guidance earlier, but has now done so on the eve of the AGM. The broker also speculates it might be more to do with Irish losses than Christmas wishes, but admits it can only guess. In the meantime, expect upgrades to consensus 2010 earnings of at least 3%, says the broker, which has nonetheless stood pat with its hand.

Deutsche Bank (Hold rating) has also left its forecasts unchanged, but that’s because the broker was already sitting well above consensus numbers. In fact, the broker was calling for 40% growth in 1H and a flat 2H10. Yet the broker still sees upside to its forecasts if current trading momentum is maintained into the 2H10. But in what seems to be a recurrent theme, Deutsche says it wont be putting any of this expected upside into its forecasts until it has an opportunity to speak to the company.

Another to agree with Macquarie to some extent is RBS (Hold rating), who thinks the upgrade is just as attributable to better Australian franchisee sales and supplier rebates as it is to a stronger performance in the group’s property and share trading businesses. However, management’s decision to enter Xmas blackout mode post the announcement now makes it difficult for the broker to determine whether the improvement is sustainable or not. Erring on the side of caution, the broker chooses to factor in some of the upside, with a cautious lift in its price target and FY10 earnings assumptions, which were still higher than Deutsche predicted.

Citi (Hold rating) lifted its target by 3% and FY10-11 EPS by 3.6% and 5%.  However, the broker seems a bit less jaded in its assessment, giving credit to improved sales trends, especially in higher margin categories. However, the optimism is tempered by the belief that 1H growth probably isn’t sustainable, thus earnings growth next half will slow.

The team from UBS (Hold rating) have whittled their whole case down to that fact that current sales have been cycling off some very weak comparables over the last eight weeks and will more than likely slow as the company cycles higher comparables over the next four weeks. While the broker has adjusted up its earnings assumptions due to higher 1H sales and margins, it thinks most of this upside will be lost due to the impact of a stronger AUD on foreign sales.

JP Morgan (Buy rating), which was already upbeat on the company, was pleasantly surprised by the news and lifted its FY10 EPS forecast by 1%. The broker sees the stock as more of a broad play on the Australian consumer and all up, it thinks the extent of margin expansion in the Franchising division will likely to continue to surprise the market.

That leaves us with Credit Suisse (Buy rating), who seemed to be most impressed by the showing. The broker has lifted its FY10 earnings forecasts by 17% and much like Credit Suisse, it expects to see a significant lift in the Franchisee margins going forward. It too sees the stock as a good cyclical play on increasing consumer discretionary spend, with solid demand for household goods in Australia and well as a gradual recovery in New Zealand and Ireland remaining as positive drivers over the medium term.

As at 1230 today, shares in Harvey Norman were trading 5c, or 1% higher at $4.51, ever close to the top of the stock’s 12-month trading range of $1.80 – $4.85.

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