The Long Term Demise Of Myer

This story features MYER HOLDINGS LIMITED. For more info SHARE ANALYSIS: MYR

– Myer to see a positive FY15
– Positives then dissipate with competition
– Trapped in an outdated model
– Forced capital raising a prospect
 

By Greg Peel

A year ago department store Myer’s ((MYR)) share price peaked over $3 – its highest point since re-listing – on a tailwind of lower interest rates and rising consumer sentiment, along with general market strength. Myer was unable to convert this expectation into actual earnings, so down the share price came again. It’s been a rollercoaster ride ever since, and the stock is currently sitting around $2.25.

The expectation versus actual earnings cycle has perpetuated into 2014, a year in which it was revealed the company had approached rival David Jones ((DJS)) to propose a merger of Australia’s two remaining department store chains. The move was seen as desperate, and the market assumed that while DJs might prove a saviour for Myer, shareholders of Myer would be the losers in any merger structure.

This view was no more apparent than when Woolworths of South Africa announced its takeover offer for DJs at a healthy premium. Myer’s share price bounced. One might suggest the bounce was a case of one takeover offer within a sector “floating all boats” on anticipation wider corporate interest would be stirred, but the bulk of commentary suggested the market was simply pleased the takeover meant a junior partner merger with DJs was now off the cards.

Is the department store model of the twentieth century now dead in the twenty-first? Both Myer and DJs have already spent this century redirecting to a private label model, becoming less of an “everything under one roof” supermarket for discretionary products and more of a co-operative of brands. Name brands, particularly in fashion, can avoid the cost of establishing their own outlets (such as in a shopping mall) if they simply take up space in a department store instead.

For this writer, not known for his style leadership, a department store became a place in which trying to buy a shirt was frustratingly difficult and time-consuming experience within a place that once boasted a whole array of shirts to choose from, over in that corner there. Now each label occupies such a corner, with its shirt, pant, short and undie offerings all together, and thus selecting a shirt means roaming the whole floor. Without shop assistant in sight.

And it’s not just fashion. I’m still recovering from the time I tried to buy an omelette pan at Myer. Half an hour later I left vowing never to darken the door of a department store again. It took me that long to establish, thanks to the indifference of a shop assistant I did manage to find, that Myer didn’t sell omelette pans. I have been true to my vow.

But I can only assume the private label model does suit some patrons. Therein lies the catch. CLSA expects that over the next few years Zara, Topshop, H&M, Uniqlo, Sephora and Williams-Sonoma all will establish a “firm footing” in the Australian market by opening their own chains of stores.

You may have heard of these brands, I haven’t, but that’s not important right now.

Indeed, CLSA expects the competitive landscape to evolve significantly over the next five years, with international retailers, many best-in-world, featuring vertically integrated business models, opening up to 250 stores. It’s taken this long for Myer, and David Jones, to even begin to catch up to the competition on the interweb thingy. And in the case of DJs, it is the intention of Woolies SA to focus even more on private label offerings as the source of incremental sales growth.

Where does this leave Myer?

Well in FY15, looking quite good, CLSA suggests, as the tailwinds of low interest rates and rising consumer sentiment finally fill the sails. But it will be a last hurrah for the department store during a period in which DJs will be undergoing restructure and the private label standalones will only have just landed. Says CLSA:

“Myer will not sit still but the troubled department store model, skewed to an aging demographic, will make escaping this trap almost impossible.”

(I’d like to give a shout out to all the other members of the aging demographic.)

Among the FNArena database brokers, it’s difficult to find a Myer fan even at its current, seemingly cheap PE multiple (by historical standards). The retailer’s March quarter sales numbers were better than a year ago, and a quarter ago, but gross margins still fell. The margin issue surprised JP Morgan (Neutral) and sent UBS (Neutral) off to cut earnings forecasts. CIMB (Hold) wondered whether management was underestimating market competitiveness or misreading customer perceptions and BA-Merrill Lynch (Sell) highlighted an apparent lack of connection between strategy and execution.

Macquarie (Neutral) highlighted “uncertain implications from structural changes in the retail footprint” and Citi was another to cut forecasts, but at least upgraded to Neutral from Sell on the low PE.

When the DJs takeover bid was announced, Credit Suisse (Neutral) saw longer term risk for Myer in a DJs restructure, despite the short term removal of the merger discount. Only Deutsche Bank saw the end of the merger prospect as a true positive, looking to the low PE to justify an upgrade to Buy from Hold.

That leaves one Buy to six Holds and one Sell (or equivalent) in the FNArena database. The current consensus target price of $2.54 suggests 13% upside, but only on a twelve month horizon.

CLSA, by contrast, has cut its target price to $1.30. It’s still a twelve-month target, but clearly the broker’s valuation is discounting for a longer term demise.

The “floats all boats” argument of Myer becoming a takeover target because rival David Jones is can be quickly dismissed by the “real” reason Woolies SA chose one and not the other, in most observers eyes, being DJs’ property portfolio. DJs actually owns most of its stores while Myer only leases. Yet Myer is the most indebted of all the discretionary retail majors, notes CLSA, and is further carrying significant off-balance sheet lease liabilities. A forced capital raising becomes a real possibility when fixed interest cover is so “skinny”, warns the broker.

How popular would a Myer capital raising be?

Hello? Hello? I’m trying to buy I shirt. Is anybody there? I have money, see? Hello?
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

Click to view our Glossary of Financial Terms