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Next - sales much better than expected

Sophie Lund-Yates, Equity Analyst | 29 July 2020 | A A A
Next - sales much better than expected

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Next plc Ordinary 10p Shares

Sell: 6,408.00 | Buy: 6,412.00 | Change 0.00 (0.00%)
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Full price sales were down 33% in the first half, however the 28% decline seen in the second quarter was much better than Next was expecting.

As a result the group has upgraded its full year stress-test scenarios. The median outcome would see full price sales down 26%, and pre-tax profit of £195m, compared to previous expectations of £0. Net debt would be £650m, a reduction of around £460m.

The shares rose 6.8% following the announcement.

View the latest Next share price and how to deal

Our view

There's no denying that coronavirus has been a serious headwind for Next. Sales declines of this magnitude would never have been dreamt of in normal times.

However, the group is actually in pretty good shape considering the circumstances. Sales are well ahead of what had been feared and online capacity is back up and running. But what's particularly impressive is Next's stock management - the amount of excess stock that found its way into the end of season sale was only up 1% on last year.

Retailers are spinning a lot of plates right now, but stock management is arguably the most important. Piles of unsold items can ultimately act as a drag on gross margins and cash flow.

Given the information we have at the moment, it's fair to assume Next is equipped to weather the current disruption. That means the focus should be on the bigger, longer-term picture.

Thanks to its history as a catalogue company, Next has a stronger online business than many peers because it was able to adapt existing infrastructure quickly. This solid foundation means it's well placed to capitalise on the longer-term shift to online shopping that's been triggered by coronavirus. Any big uptick in demand could see margins come under pressure as the group invests to expand its scale, but ultimately we see this as a great growth opportunity.

The other added benefit is that Next's shops typically have shorter, favourable leases. As trading conditions are impossible to predict at the moment, this is a real bonus and gives the group flexibility when compared to larger or more rent-encumbered peers.

Something to be mindful of though is that the ensuing economic slowdown isn't great news for the finance business (where Next customers pay using credit, and makes up about 6.1% of total sales). Bad debts are likely to increase, and what is usually a nice extra revenue stream is likely to flow more slowly as fewer people will pay their interest. This isn't a problem at the moment, but it could hamper profits if the group's forced to keep upping its provisions for payment defaults.

We should also note that there's a reasonably large debt pile. This isn't a major red flag in itself, but it does mean that if trading were to suddenly deteriorate again (in the face of a second lockdown for example), this could be uncomfortable.

Overall, Next has put to rest any fears we had about its ability to weather the current storm. Ultimately we think a lot of Next's long-term strengths remain in play. But investors should keep in mind ups and downs in the near term are almost guaranteed, and a price to earnings ratio that's higher than the ten year average means the shares could be affected if performance disappoints from here.

Next key facts

  • Current forward 12m price to earnings ratio: 22.2
  • 10 year average 12m forward Price/Earnings ratio: 12.9
  • Prospective yield: Next has suspended the dividend.

We've introduced this section in response to recent survey feedback.

Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Half year trading details

In store sales fell 62% in the first half and 52% in the second quarter. Like for like (LFL) sales since shops reopened have been down 32%. By the 29 June 97% of UK and Eire stores had reopened.

Online, sales fell 11% but were up 9% in the second quarter. Warehouse capacity has come back faster than expected after closing in March. The group also benefited from a lower volume of returns over lockdown.

Next thinks the disruption will trigger a long-term shift to online shopping, and is investing in its digital capacity. It's also introduced 24 hour shift patterns in warehouses to help ramp up capacity in the near-term.

The finance division, where Next customers pay using credit, saw interest income fall 5%. However, there has been no change in the speed at which customers are paying down their accounts. As a precaution Next has set aside £20m as a bad debt provision, in case payment defaults start to increase.

Costs have been tightly controlled in the period. Stock cancellations saved £280m, and £150m of excess items will be carried forward to Spring/Summer collections in 2021. Shop closures means full year wage costs are expected to be £140m lower. Around 10% of the workforce remains furloughed, and the "majority" are expected to return in the busier Christmas period.

An extra £45m of operational cost savings are expected for the full year.

The group has access to cash resources of £1.6bn.

Find out more about Next shares including how to invest

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

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 for more information.

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