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Inditex - tough first half but recovery on the horizon

Sophie Lund-Yates, Equity Analyst | 16 September 2020 | A A A
Inditex - tough first half but recovery on the horizon

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Industria De Diseno Textil SA EUR0.03

Sell: 24.81 | Buy: 25.15 | Change -0.61 (-2.40%)
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Net sales fell 37.3% to €8.0bn in the first half, reflecting the impact of store closures in the first quarter. Combined with costs for the ongoing optimisation programme, the group made a €195m loss, compared to a profit of €1.5bn last year. Without the optimisation programme, net income would have still been lower than 2019 at €39m.

However, Inditex said "performance saw a turning point during the second quarter 2020 laying the foundation for a return to normal trading conditions".

The shares rose 5.3% following the announcement.

View the latest Inditex share price and how to deal

Our view

The sales gap caused by store closures is closing - the Zara owner has shone a light on the path to normality.

And there are more reasons for optimism. Industria de Diseno Textil (as it's formally known) is a Spanish powerhouse and the largest retail fashion chain in the world. Being the biggest fish in the pond gives Inditex scale advantages, and plans to have online account for 25% of all sales by 2022 should help improve things further. We suspect the pandemic will see this goal brought forward, as people have become more accustomed to online shopping. By integrating physical stores with digital ones Inditex won't only boost its trading performance, but also its profitability.

The integration helps what is already one of Inditex's key assets: a tight supply chain. This means it traditionally hasn't had to tie up lots of money in excess stock, and it can react to changes in fashion trends quickly. Its single inventory model digitally tracks items, and means local stores can be used to fulfil online orders. This reduces processing time and costs. Being able to offer the flavour of the month faster than peers means Zara - which accounts for the majority of sales - has become a go-to shop. That helps support more premium price tags.

Efficiency is also being boosted by the group's optimisation plan. As well as the online/store integration and digital investment, the project includes closing smaller stores and focussing on bigger ones in prime locations. We should also note the group has a net cash position of over €6bn, which is an enviable financial position.

We're supportive of Inditex's strategy, but there are some things to be mindful of in the short-term.

Inditex's fashion has a relatively high price point, and recessions aren't traditionally when customers choose to slide up the value chain. It will be important to see if the group can continue to shrink the sales gap in the coming months. If consumer spending slows, it could be hurt by people opting for cheaper fashion, and this wouldn't be good news for the already negative operating margins.

At the time of writing the shares change hands for a fair amount more than the ten year average. That means there's pressure on trading to keep moving in a positive direction, or the share price could fall.

Longer-term we think the group is in a great position thanks to its scale and unique business model. In the nearer-term though we can't rule out ups and downs, and the priority from here will be monitoring how quickly the remaining sales gap is plugged.

Inditex key facts

  • Price/Earnings ratio: 29.7
  • 10 year average Price/Earnings ratio: 24.1
  • Prospective yield: 3.4%

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 results

Sales across all brands fell in the period. The biggest brand, Zara, saw sales fall to €5.5bn from €8.9bn. While net sales declined overall, online sales grew strongly - these were up 74%, helped by Inditex's integrated single inventory model. While still down, total sales are starting to recover too. Between 1 August - 6 September 2020, they were down 11%.

Stores have been opened in 14 markets so far this year, taking the total number to 7,337, although the total number of stores fell overall. Space growth for the year is on track.

The group's integrated inventory meant it was able to reduce inventory by 19% in response to the slower sales. This helped working capital (short term assets minus short term debts) return to normal.

Operating expenses fell 21% to €3.0bn, but this wasn't enough to offset the lower profits so operating margins are now -2.5%, against positive 15.9% last year.

Net cash stood at €6.5bn at the end of July, down slightly from €6.7bn at the same time last year.

Early responses to the Autumn/Winter collections have been positive, and 98% of stores are now open. Total annual capital expenditure in 2020-2022 will be around €900m, this will include a €1bn investment in digital capabilities over three years.

Find out more about Inditex 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 disclosure for more information.