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High street collapses – is less competition automatically good news?

We explore what the recent collapses on the high street could mean for investors.

Important notes

This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

It’s been a tumultuous couple of weeks for the UK high street. Topshop and Dorothy Perkins owner, Arcadia Group, went into administration. News came out saying all Debenhams stores could be forced to close if administrators fail to find a buyer. An assortment of smaller names also folded.

High street footfall has been dropping for years, putting a huge strain on bricks and mortar retailers who still have to pay the rent. Lockdowns made these problems worse in a very short space of time.

It could be a very quiet Christmas on the high street. From investors’ perspectives though, this might not be all bad news. Most of the names that have collapsed aren’t public companies (ones you can buy shares in on the stock market). And less competition could push customers towards listed survivors like Marks & Spencer and Next.

But it’s a mistake to assume that surviving the high street shake out is enough to guarantee success.

Remember, investments can rise as well as fall in value so you could get back less than you invest.

Next – best in class?

The loss of Topshop and Dorothy Perkins is more likely to benefit fashion-focused Next. These brands occupy similar price brackets, so it’s very possible we’ll see shoppers transfer.

Next also has a very strong online business, helped by its history as a mail-order company. The infrastructure needed to deliver a postal order is, after all, not that different to what's needed to deliver an online order. This makes Next well placed to take advantage of the accelerated shift to online shopping caused by coronavirus.

Crucially Next has managed to avoid being forced to discount too much of its stock. The amount of excess stock that found its way into the end of season sale actually fell year-on-year, despite the effects of lockdowns. Stellar inventory management and the more mature online business has helped support industry leading operating margins of 22.9%.

Compared to less nimble peers, Next has very favourable terms on most of its leases. The average lease length is 3.5 years, compared to the decades you’d expect on bigger more traditional high-street department stores. The other nuance in Next’s store estate is its presence in out-of-town retail parks, where the majority of its retail sales come from.

Proportion of Next retails sales 2020

Source: Next 2020 half year results

These have proved more popular this year, with sales dipping 15% compared to over 30% in shopping centres and city centre stores. We think this trend will continue in a post-lockdown world.

Presence in these parks contributed to Next being in the enviable position of upgrading pre-tax profit guidance for the full year, to £365m, despite all the disruption. That resilience is reflected in the valuation, though – Next shares change hands for 17.8 times expected earnings, some 33.6% above the ten year average. There’s a lot riding on Next continuing its positive results record.

We still think Next is in a much better place than its peers. It appears to have excelled on both an operational and managerial level. Our feeling is Next’s store estate will have to shrink at some point if it wants to thrive in the new world. But, for now, enough people will still need to visit the high street and shopping centres for Next to be really successful.

Register for Next share research and results

Marks & Spencer – about to turn it all around?

This high street favourite is a direct competitor of Debenhams.

Like its troubled rival, M&S has also had a few very tough years. Clothing & Home sales have struggled, not least because the online business leaves quite a lot to be desired and fails to plug the gap. This fed into the stomach-churning 41% drop in Clothing & Home revenues in the first half of this year.

And while performance has been in decline for a while, the group still has a very (overly) large store estate to pay for. Profits haven’t fared well.

But we think there’s room for a bricks and mortar department store, even after the high street’s had its revolution. As one of the few left standing, Marks & Spencer has a real chance of standing its ground for the long-term.

M&S pre-tax profits (£millions)

Past performance isn’t a guide to future returns. Source: Refinitiv Eikon, 11 December 2020. *e - estimated

Covid-19 has forced the group to speed up its turnaround plans. M&S has attempted to reboot itself a few times, but this one feels a bit different.

This time around almost 8,000 members of staff are being cut, lots of stores are set to close and there are gargantuan efforts to integrate the online and physical stores. The latter is particularly important – coronavirus has accelerated the shift to online and if Marks wants a chance to compete, it needs to act quickly.

Something else the likes of House of Fraser and Debenhams don’t have is an excellent food business. This is the key to future growth in our opinion. It's a genuinely differentiated product, and that makes it an asset. Lack of footfall in travel destinations (think service stations and train stations) is hurting sales at the moment, but longer term we think there's opportunity. Especially with sales at Ocado doing so well.

The short-term is likely to be rough because of how many stores the group has in city centres and travel locations. And we aren’t saying all problems are fixed. But we think Marks & Spencer has a real chance of claiming a respectable share of customer wallets in the long-run, especially now there’s less choice on the high street.

Register for Marks & Spencer share research and results

What’s the verdict?

We think the changes on the high street could be good news for Next and Marks & Spencer. Rather counterintuitively, the pandemic has created an environment that stands to benefit these retail giants, and each has some unique growth levers to pull.

However, we can’t deny the world of shopping is changing. A shift that’s been accelerated in 2020. We think the high street is changing, not dying. But if in the midst of this change, too many businesses go under, there’s a chance people simply won’t have enough reason to visit town centres. That would hurt even the strongest surviving retailer.

This is an extreme scenario. We think customers will always want some form of physical shopping – just look at the recent crowds as lockdown lifted. But investors should be prepared for a bumpy ride if they choose to invest in retail shares at the moment. We’re in a time of great flux – which could offer opportunity, but we won’t have seen the last of the losses.

This article isn’t personal advice. If you’re not sure if an investment is right for you, then you should get advice.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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    Important notes

    This article isn’t personal advice. If you’re not sure whether an investment is right for you please seek advice. If you choose to invest the value of your investment will rise and fall, so you could get back less than you put in.

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