Healthy Start To Baby Bunting’s First Year

This story features BABY BUNTING GROUP LIMITED. For more info SHARE ANALYSIS: BBN

-Substantial store roll out in progress
-Margin expansion and scale potential
-Dominates fragmented industry
 

By Eva Brocklehurst

Baby goods retailer Baby Bunting ((BBN)) has made a strong start to its life as a listed company, delivering a maiden first half profit well above expectations and upgrading its FY16 prospectus estimates. Brokers believe the upgrade will give investors renewed confidence in the company.

Total sales roses 30%, driven by 9.2% like-for-like sales growth and an aggressive store roll-out program. The company's fortunes were also boosted by the entry into voluntary administration of competitor My Baby Warehouse during the half year. Baby Bunting is a dominant player in a fragmented industry and the majority of its sales growth is expected to come from increasing scale and market penetration.

Morgan Stanley notes retail peers are struggling to obtain sales growth amid a weakening Australian dollar. The broker finds many reasons why Baby Bunting performs well in the current environment. The store roll-out is substantial, with the company having 35 stores and targeting 70 or more. Increasing awareness of the brand provides for growth off a low base.

The company is also advantaged by the travails at its major competitor and the under-invested nature of the sector. Sales growth is outpacing cost growth as the company invested in its systems and warehousing early in the business cycle.

Private label expansion, with 90% of stock bought in Australian dollars, supports gross margins. Morgan Stanley expects increased private label ranges to drive an expansion of gross margin of around 20 basis points per annum.

The broker notes the cost of doing business as a percentage of sales fell by 50 basis points in the first half. FY16 earnings guidance is upgraded to $16.5-18.5m and Morgan Stanley upgrades its forecasts by 8.8% on fairly conservative assumptions for the second half. Like-for-like sales growth is assumed to be 5.5%.

An easing in sales growth is expected in the second half, as 14 of the My Baby Warehouse stores have been re-branded to Baby Bounce and will start to operate under more normal conditions. Baby Bunting also expects some cannibalising as new stores gain traction, particularly in Queensland where three of the four stores that opened in the first half are located.

Increased purchasing scale is having an impact, which Macquarie notes is offsetting higher sourcing costs. The broker expects the company will gain a significant share of the specialty baby goods market. The regulatory framework in Australia sets up barriers for international and online competitors while the lack of scale and funds from existing peers softens any local threat.

Morgans is of a similar view, believing the group is less than 45% through its roll-out potential. From FY17 Baby Bunting will also be in a position to leverage its recent investment in a head office support structure and distribution centre.

Management expects life-for-like sales will moderate over the balance of the second half as the fulfilment of online “Click & Collect” shifts to individual stores from the distribution centre. With around 33% of stores not included in the like-for-like calculation this will affect the growth rate. Still, Morgans does not expect the effect will have a major impact, with online sales only contributing a small proportion of total sales.

There was one minor negative in Morgan's opinion. Gross margin of 34.8% was slightly below expectations. Management suggests there was little impact from the Australian dollar and the broker suspects the miss on margin was largely attributable to higher growth in hard goods such as prams and car seats which are typically lower margin compared with soft goods.

Brokers believe the stock warrants its premium rating although Macquarie asserts the company can afford no slip-ups. FNArena's database shows three Buy ratings and a consensus target of $2.78, suggesting 12.9% upside to the last share price.
 

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