Adairs Showcases Potential For Upgrade

This story features ADAIRS LIMITED. For more info SHARE ANALYSIS: ADH

-Benefit from housing upswing continues
-Focus on fashion in furnishings increases
-Consensus starting to price in upgrades
 

By Eva Brocklehurst

Home furnishing retailer, Adairs ((ADH)) provided an upbeat assessment of its first quarter, delivering like-for-like sales growth of 17%, well ahead of prospectus forecasts. Brokers expect there is more to come. The unwinding of the Australian residential building cycle is not expected to impact the company just yet, as it is a late-cycle beneficiary of residential building growth.

UBS observes there is some pressure building in gross margins and, as the September quarter is the smallest quarter of the year, makes no changes to FY16 forecasts. The broker expects any slowing in the housing cycle is more likely to affect the company in the second half of FY17, or FY18.

Moreover, a focus on fashion in home furnishings could continue to drive above-market growth, the broker maintains. These products grew 39% in FY15 and now represent 57% of Adairs' sales. UBS forecasts a gross margin of 61.4% in FY16. The company's sales growth would need to fall below 8.1% and margins below 60% before gross profit in the prospectus forecast is at risk, UBS estimates. Hence, a Buy rating and $3.30 target.

Morgans suspects an upgrade to forecasts could be in the wings, although not just yet. Earnings in the quarter were up 41% on the prior corresponding quarter and the potential to exceed prospectus forecasts is high, with earnings tracking well above the required run rate.

Morgans also believes the earnings margin will expand more meaningfully from the second quarter, particularly as operating leverage on strong top line outcomes flows through. As a benchmark and reminder, Morgans notes the prospectus forecasts are underpinned by 9.6% like-for-like sales growth, 11 new stores and a gross margin of 61.5%.

Any negatives? Morgans points to some areas of concern such as the cooling housing market but believes this is overplayed. There is also some gross margin pressure, the broker acknowledges. The broker is also mindful that consensus forecasts are pricing in upgrades to prospectus forecasts already. The broker considers the stock price is undemanding and retains an Add rating and $3.18 target.

Goldman Sachs also highlights the fashion decorator range, category extensions and a greater online presence as supportive initiatives, which should deliver strong sales growth. The lower Australian dollar is expected to be a headwind in FY16 but this should be offset by positive operating leverage.

Goldman's forecast for FY16 profit is now 7.0% above prospectus and the broker expects the company to deliver 14-15% compound revenue and earnings growth over FY15-17. Goldman has a Neutral rating and $2.90 target. Its target implies an 11% total return on the recent share price, excluding dividends.

See also, Adairs Furnishes Strong Start To FY16 on August 27 2015.
 

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