Next plc (LON:NXT) admits it’s had a tough year and sees no sign of difficulties easing any time soon as rising inflation squeezes consumers’ disposable incomes.
But the fashion retailer continued to generate strong cash flows in the year to the end of January 2017 and has plans to revitalise its online catalogue business Next Directory.
“The news that Next’s difficulties are set to continue is no surprise,” said George Salmon, equity analyst at Hargreaves Lansdown.
“With inflation rising and wage growth low, disposable incomes are coming under pressure, and Next has long since held the view that any spare cash we do have is increasingly going towards casual dining and entertainment rather than clothing.”
In its full year results, Next said consumer spending habits have changed. It pointed to the Barclaycard consumer spending report for the fourth quarter of 2016, which showed a 0.3% decline in high street clothing sales, compared to a 11% increase at restaurants and a 8% rise in entertainment spend.
“However, it’s worth remembering the group’s management has an excellent long term track record, and the business still earns impressive margins,” Salmon said.
“The fact the shares are trading at a near 20% discount to their historic average price to earnings ratio will not go unnoticed by those who believe in its long term prospects.”
Strong cash flows
Next generated an increase in surplus cash to £330mln from £300mln and discretionary cash flows rose to £717ln from £655mln. The company also maintained its ordinary dividend per share at 158.0p
"Next has an impressive track record and generates significant free cash flow, which enables it to buy back shares and pay special dividends,” Cantor Fitzgerald said.
The broker added: “The brand is, in our view, not broken even if it has lost some of its appeal against other mainstream competitors.”
The strong cash flows came despite Next reporting its first full year profit decline since the financial crisis. Pre-tax profit fell 3.8% to £790.2mln in the year to the end of January, compared to £821.3mln the previous year. However, it came as no suprise to the market as Next said in a January trading statement that it expects pre-tax profit of £792mln, down from a previous estimate of between £$785mln and £825mln.
Revenue fell to £4.0bn from £4.2bn, driven by a 2.9% sales decline in its retail business, which includes 538 stores. Brand sales were flat while sales in the online catalogue Next Directory arm rose 4.2%.
“Fundamentally the business remains strongly cash generative even if it’s not expanding rapidly and is able to maintain solid returns to investors,” said Neil Wilson, senior market analyst at ETX Capital.
“Shares have already halved in value since the 2015 peak. With the Directory division performing very well it appears well placed to respond to consumer trends as they shift more spend online.”
Next invests in Directory…
The Directory division posted a 4.3% increase in sales, but it marked a slowdown from the 7.7% growth in the previous year as its credit customer base fell 3% during the period.
Customers have been gravitating towards cash accounts and away from the credit offer, which allows customers to buy items on credit and make repayments over a longer period.
The Directory business has been relying heavily on the credit book and expects the customer bases to decline at a modest rate in the year ahead.
In an effort to boost the business, the company has launched mobile websites in the UK and Northern Ireland, released improved apps for smartphones and tablets and has converged its UK and overseas websites to allow faster roll-out of content.
Next has also launched a new stock ordering system, which will improve stock availability to 70% from 65%.
For the year ahead, it plans to increase investment in Directory systems and content by £11mln.
It will roll out ‘Next Unlimited’, which allows customers to pay £20 for a year’s unlimited next-day delivery in the UK and Northern Ireland.
Next will also develop new credit offers, improve its search engine functionality and launch an overseas mobile website in August.
Richard Hunter, head of research at Wilson King Investment Management noted that “focused efforts to revitalise the Directory brand are being made, whilst the company’s ability to contain costs, ensure stock availability and invest in the business (such as new store openings), remains in evidence”.
The company spent £161mln on new stores, warehousing and systems during the year.
“In addition, the dividend yield of over 4% is a reason for investors to wait, whilst confirmation of further special dividends adds to the immediate shareholder return," Hunter said.