Super Retail Outlook Not That Super

This story features SUPER RETAIL GROUP LIMITED. For more info SHARE ANALYSIS: SUL

-Positive focus on auto maintenance
-Should Ray's be closed? 
-Minimal profit growth a concern
 

By Eva Brocklehurst

Super Retail ((SUL)) delivered a soft first half result, missing broker forecasts on the numbers but predictable in that the automobile and sports categories performed strongly while leisure remains challenged.

Deutsche Bank queries the company's strategy as it does not appear to be having the desired effect. The most positive aspect was that automobile categories are resilient and the company noted an increasing focus on auto maintenance. Momentum in the sports segment was also encouraging.

Ray's is considered the difficult part to fix, although Deutsche Bank is encouraged by early results of the trial store format. Leisure segment sales were actually in line with Deutsche Bank's expectations but the comparables are highlighting the current weak conditions and intense competition in that market.

Morgan Stanley just wants more clarity on the outlook. Earnings guidance has been missed a number of times and the broker wants more detail on whether the drivers of the continued earnings misses are one-off or whether they will return to haunt the company in the future.

The result signals further delay in the turnaround in the leisure segment, in Goldman Sachs view. The decline in margins at both Ray's and BCF highlight the difficulties management faces in changing the format amidst a competitive trading environment at Ray's, and driving sales growth at BCF without significantly affecting margins.

Nevertheless, the broker, not one of the eight monitored daily on the FNArena database, believes the valuation is already factoring in some of the downside risks for leisure and retains a Neutral rating.

The financial year is shaping up to reveal a subdued result and Macquarie expects, with the stock still trading at a market multiple despite the sell off, a return to higher rates of growth will be required before the stock is re-rated. Hence, the broker downgrades to Neutral from Outperform.

Ray's is understood to have delivered a $20-3m loss with a $20m impairment of the brand name being taken. Commentary also suggests to Macquarie that BCF turned negative in the key November-December trading period.

This should be a temporary blip and the broker expects management to address pricing and marketing issues. Ray's require some harder yards and its viability is more uncertain, in Macquarie's view.

Trials of the three new format stores are encouraging and a further five are to be opened in the second half. These are attracting a new type of customer. Management, subsequently, believes it may need to relocate 35 stores, more than first anticipated. Hence the brand impairment.

On the other hand the Rebel brand continues to perform strongly and Macquarie observes the Amart brand is getting traction in new markets. Macquarie believes leisure is under-earning and is yet to realise the significant investment made in the supply chain and IT in recent years.

The problem with Ray's is manageable, Credit Suisse believes. While the future of the brand in its current format is less certain following this result, the perceived need to re-locate more stores suggests this will work against brand continuation.

Credit Suisse calculates closure costs associated with Ray's, if that were to eventuate, might be $100m or 50c a share. This results in a valuation around $8.07, only marginally below the closing share price after the announcement.

As a result the broker is inclined to the view that the valuation risks are slightly favourable at this point in time. Credit Suisse retains Ray's as a continuing business in forecasts. Rating is upgraded to Neutral from Underperform.

The result was not “super” but not that bad either, UBS asserts. The broker accepts the leisure segment needs work but can be turned around. UBS reduces FY16 earnings forecasts by 12% and makes smaller reductions to estimates from FY17 onwards.

This reflects significant reductions to leisure margins, improving margins in sport and automobile segments and higher corporate costs. UBS considers its Buy thesis is still intact and believes the stock screens cheaply.

Morgans takes a dimmer view and downgrades to Hold from Add. While acknowledging the share price reaction might be extreme, the minimal profit growth, once again, suggested in FY16 estimates remains of concern.

The broker believes BCF can be turned around but is wary of the amount of time and investment need in Ray's. The broker also contemplates whether Ray's is worth the effort.

The performance of the converted stores has been above initial expectations, but Morgans believes a lack of scale, brand awareness and store locations could well prevent the format from ever delivering a meaningful profit. Still, the broker allows for the company having one last crack at trying to get the business back on the rails.

Super Retail has three Buy ratings, four Hold and one Sell on FNArena's database. The consensus target is $9.30, suggesting 14.4% upside to the last share price. Targets range from $8.50 (Deutsche Bank) to $10.70 (Morgan Stanley) The dividend yield on FY16 and FY17 forecasts is 5.1% and 5.8% respectively.
 

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