Several analysts have voiced disappointment over the latest set of results from retailer Pets at Home Group PLC (LON:PETS) after it reported a 9.3% drop in first-half profits as margins shrank 160 basis points to 51.9% amid tough competition and rising cost pressures.
The company also said it was reviewing its veterinary business, which included proposals for buying back 55 practices from joint venture partners and lining up another 30 for potential closure.
READ: Pets at Home profits fall on weaker margins as it looks to close vet practices to offset cost pressures
The blowback originates from the rapid expansion of its veterinary arm, which has opened 250 practices in the last five years.
Vet segment caught out by outside factors
Phil Carroll, an analyst at City broker Shore Capital said in a note that the rapid pace of expansion, coupled with pressure on salaries amid a lower supply of vets had “come to the fore” for the company, adding that the restructuring of the segment was “necessary” but would “hit the investment case in the short to medium term”, culminating in the broker downgrading the stock to ‘hold’ from ‘buy’.
However, Carroll told Proactive that the company is partially a victim of back luck, with the veterinary business now having to go through a reset process similar to that of its retail arm.
“One of the reasons I’ve always liked it as an investment is the fact that it operates in the structural growth market, it just happens to have been caught out by rapidly expanding at the time when there is a shortage [of vets], and that’s driven up cost inflation”.
Carroll also said that the firm’s store estate will continue to be relevant despite the overall shift toward online retail, citing that half the company’s online sales are click-and-collect, requiring the presence of physical stores.
Vet restructuring more complex than retail, but remains key differentiator
Adam Tomlinson at Liberum however, said restructuring the veterinary arm would not be as simple as the retail segment.
“[The restructuring] is not without risk,” Tomlinson said, adding that the vet business would not simply be a cost-cutting exercise like that performed on the firm’s retail arm.
“It’s not a case of just cutting prices, it’s about improving the quality of the underlying state. It’s a lot more complex than what they did on the retail side”.
The restructuring of the vet business is expected to result in non-underlying income statement costs of up to £49mln and non-underlying cash costs of up to £27mln.
Tomlinson added that despite the large investment required to rework the segment, it remained a “key differentiator” for the business against its competitors, making a sale unlikely.
“If they get rid of the vet’s business, their biggest point of differentiation would disappear,” he said, adding that it would be a strange move unless the company was approached with “a very attractive offer”.
Retail cost-cutting increases scope for cross-selling, says analyst
The idea of outside events and bad luck attributing to the company’s struggles was echoed by Nicholas Hyett, equity analyst at Hargreaves Lansdown, who said that the vet’s business had been hit by several factors including a decline of EU vets in the UK which was “putting pressure on salaries and also making it more difficult to find new partners”.
However, Hyett added that the restructuring of the group’s retail arm had been successful in “pulling customers back through the door”, which increased cross-selling opportunities between retail and veterinary despite “trashing margins”.
“With the new CEO targeting 50% of revenues from pet care, that’s clearly where he sees the group’s future. “
In late-afternoon trading Tuesday, Pets at Home shares were flat at 114.6p.