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boohoo - result of UK supply chain review

Sophie Lund-Yates, Equity Analyst | 25 September 2020 | A A A
boohoo - result of UK supply chain review

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Boohoo Group Ordinary 1p

Sell: 62.46 | Buy: 62.58 | Change -0.96 (-1.52%)
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boohoo has published its response to the independent review of its UK supply chain, following allegations of poor working conditions and low pay at one of the Leicester factories used to supply boohoo clothes.

The review found "many failings in the Leicester supply chain and recommended improvements to boohoo's related corporate governance, compliance and monitoring processes." However, the leader of the review is satisfied boohoo didn't purposefully allow poor conditions, and that the group is well placed to make the necessary changes.

In response to the review, boohoo has committed to a number of actions to mitigate the chances of a reoccurrence.

The shares rose 18.3% following the announcement.

View the latest boohoo share price and how to deal

Our View

boohoo was able to trade during lockdowns when its high street counterparts couldn't, putting it in a better position than most. And sales have continued to thrive.

We suspect cheap price tags are part of the reason for that - why spend big on new clothes when no-one's around to see it?

Its affordable products should perform better in the face of squeezed discretionary spending too. The retail industry is already fiercely competitive and continued discounting has seen gross margins come under pressure, but, crucially, operating margins are hovering in double-digit territory. That's helped by an incredibly supple supply and manufacturing process, which allows it to pivot its offering quickly depending on trading patterns and which items prove popular.

This model is an important part of the investment case, and is why news of poor working standards hit the share price back in the summer. The initial review seems to be more positive than perhaps feared, and suggests that while boohoo may have been lax in its oversight - there isn't a deep rooted corporate cultural problem. That's a big relief. The more likely this is to be a one off, the better the chances of rooting the problem out for good. We'll be keeping a close eye on progress though. The new risk mitigation efforts all sound sensible, but it's still very much a to-do list, rather than concrete action.

The group can't afford to lose consumer confidence. As it stands we have cause to think things are back on track, but there are no guarantees. The price to earnings ratio is still quite demanding, so the share price will be sensitive to even the smallest set back.

Looking beyond the pandemic and recent headlines, international expansion is the key to future spoils. Acquisitions have helped here, with sales growing at an impressive rate, including buying the remaining minority stake in Pretty Little Thing.

The shopping spree hasn't hurt boohoo's balance sheet either. The group has £350m of net cash on completion of the deal, which offers a layer of protection in these uncertain times. It also means the group has the firepower to pounce on other acquisition opportunities to help its international ambitions.

Housing new additions, international expansion and supply chain overhauls don't come cheap either- capital expenditure is expected to spike in the current financial year. That's fine if sales growth follows suit - if it doesn't then the added scale becomes a drag, rather than a benefit, for margins and profits.

Overall we continue to think boohoo has a strong operating model and opportunities for the future. However, a demanding price to earnings ratio means there is still scope for the shares to fall sharply if the group hits any more bumps in the road.

boohoo key facts

  • Current 12m forward price to earnings ratio: 37.2
  • Average 12m forward price to earnings ratio since listing (March 2014): 42.6
  • Prospective yield: boohoo doesn't currently pay a dividend

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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Actions to improve supply chain

From a Corporate Governance perspective, the group is looking to appoint two new Non-Executive Directors. One will be experienced in Environmental, Social and Governance (ESG) matters. Among other measures, boohoo will also make supply chain compliance a mandatory item on every Board Meeting agenda.

Within its purchasing practices the group's introducing mandatory education for its purchasing teams, and appointing a new Group Director of Responsible Sourcing. The team will continue to develop and implement a new set of Purchasing Principles.

Raising standards will mean consolidating its list of approved suppliers, and create partnerships with new suppliers with strong sustainability policies. The process of auditing all tier one and two suppliers will be completed in the next six months.

boohoo will also work to support Leicester's workers' rights by establishing a Garment & Textiles Community Trust, governed by independent trustees, providing it with start-up funding and ongoing annual support. It will also work to increase workers' education around their rights and obligations.

The group also said it will look to "consolidate volumes, place more consistent order flows and focus on working to achieve best practice with suppliers."

Trading details (figures at constant exchange rates) 17 June 2020

First quarter revenues rose 45% to £367.8m, excluding the impact of exchange rates. That reflects strong growth across all geographies, especially the US.

The group now expects full year revenue growth of around 25%, better than current market expectations.

Alongside the trading statement boohoo announced the acquisition of the online businesses, and all associated intellectual property, of Oasis and Warehouse for £5.25m.

The biggest improvement in first quarter revenue came from the US, which reported an 83% rise to £92m. The UK, which is still the biggest region by sales, posted a 30% increase to £183m. In the Rest of Europe revenue was up 65%, reaching £63.4m, while Rest of World revenue rose 22% to £29.4m.

boohoo said there was strong underlying growth across the boohoo, Pretty Little Thing and Nasty Gal brands. More recently acquired names Karen Millen, Miss Pap and Coast have been integrated onto boohoo's platform and "continue to trade strongly".

Gross margins rose from 55% to 55.6%, helped by the group's flexible supply and manufacturing processes. This allowed it to react quickly when lockdowns hit, and categories like loungewear became more popular.

Oasis and Warehouse's online operations generated revenues of £46.8m in the last financial year, and will be integrated into the business over the coming months. boohoo is actively considering further acquisition opportunities, with a number of prospects "likely" to emerge in the coming months because of the challenging conditions.

The group finished the quarter with over £350m of net cash.

Looking ahead, full year underlying cash (EBITDA) margins are expected to be between 9.5-10%. This will depend on the extent of discounting in the sector as well as the effects of general trading uncertainty. Capital expenditure will be £60m - £80m, compared to £45.6m last year.

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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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