Small Caps | Nov 26 2015
-Heightened discounting continues
-Weak first half likely
-Potential for long-term recovery
By Eva Brocklehurst
Billabong International ((BBG)) requires investors to be patient. The company is progressing with its turnaround strategy, but in the current environment the going is slow.
Citi is disappointed in the update provided at the AGM but concedes trading in North America is difficult. The broker envisages potential for margin expansion,in time, but for the present opts to retain a Neutral rating.
Meanwhile, JP Morgan observes discounting and promotional activity continue to hamper progress, particularly in sports retailing. Billabong has signalled an intention not to participate in such discounting despite the negative impact on revenue among large customers.
Earnings are tracking slightly below expectations and JP Morgan increases its forecast decline for the first half, while recognising December is a key trading month, particularly in Australia. The pace of margin expansion has also moderated.
The broker is upbeat about the longer-term potential, although the path ahead is uneven. FX is becoming a challenge and, despite valuation support and confidence the company will make it through, JP Morgan retains a Neutral rating until signs of greater stability are forthcoming.
Deutsche Bank is sceptical about the claim that the weaker Australian dollar has impacted earnings, given margin pressure in Australia should be more than offset by favourable translation from larger US businesses.
What is clear, nonetheless, is that trading conditions in the US are weak and competition is intense. The second half of FY15 was pleasing but, since then, the broker notes momentum has stalled. The brands may be strong and the company gaining market share but, Deutsche Bank asserts, turning this into profits is the difficult part.
No guidance was provided, but the skew in earnings towards the first half is likely to be less than usual. Hence, the broker suspects first half results will be weak but the second half will improve as cost savings initiatives deliver benefits.
Deutsche Bank reduces earnings forecasts by 15-17% across its forecast period. The broker also flags the large interest expense is becoming more onerous as the Australian dollar weakens.
At current levels Deutsche Bank considers the stock fairly valued, given potential earnings upside is offset by execution risk, delays and an expensive capital structure. FNArena's database contains three Hold ratings. The consensus target is 59c, signalling 14.6% upside to the last share price.
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