Shoe Zone: First Step

22nd Apr '15 by Mercurius

2 comments 6384 reads

Key Numbers

None

Analysis

Shares have fallen through the floor on this release and are trading down ~30% at 180p. Management now expect to miss forecasts for the full year and both revenue and profit are expected to be down in the first half YoY. Despite this, I think the company still has decent growth prospects and whilst there is some uncertainty here, the market is now offering a fair discount.

Introduction

Shoe Zone listed in mid-2014 and won fans as the shares have risen consistently and traded at 260p yesterday. At this price, ~£130 market cap, the shares weren't cheap. PBT last year was £11.4m for a multiple of just over 11x PBT. I don't think this was particularly expensive either though, especially given the strong balance sheet.

The view from the last set of final results was good too. Revenue was down ~11% but this was due to expected temporary store closures. Prospects for growth were good, new permanent stores were opening and management was shifting the estate towards more profitable large stores. Margins looked to be improving too as the company sourced more product overseas.

Today's trading update today revealed that revenue slowed in the first half. Volume was up but average price was down due to mix. Management believe that the inventory is still fresh, plausible given increasing volume, and expect the balance sheet to remain strong. Management continue to open stores - nine opened in the period and agreed terms on ten more - and continue to execute the shift to larger stores.

Poor controls?

The first thing I notice here is that volume was up but price down on mix, kind of unusual to see this in retail. Usually what you see is volume dropping off or pricing coming down in response to a drop in volume. Seeing volume hold up against falling price is more typical of commodity industries than retail.

My guess is that management just weren't on top of things here. At some point, they should have realised the mix was wrong and tried to counteract these trends but this clearly didn't happen. It raises questions over how much control management have over inventory.

Of course, this is just a hypothesis. It may be that volume was actually only up a very small amount so there wasn't actually much room to sell through and shift the mix. At this stage, I think we can just observe that this is unusual and management…

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janebolacha

22nd Apr '15

I agree with your conclusion, although it is a little disconcerting that it was a “no numbers” RNS when numbers clearly are available.
As regards the increase in volume sales but this translating into a decrease in value sales, I read this as saying that they did get the customers into their shops in the numbers they had expected but that the customers simply then spent less because they didn’t need to buy more heavy or warmer winter full boots and instead settled for cheaper ankle boots. ABF’s RNS yesterday actually made a similar point in relation to their “retail” operation (Primark), that sales values were affected by the relatively warm weather. I suppose that means customers were buying lighter tops rather than more expensive jumpers, perhaps, and their kind of customer profile might well be very similar to that of SHOE. From the comment in the SHOE RNS that inventories are under control, I inferred that they actually did “read” this one right (I mean probable demand in the warmer than usual weather) and did have the stock the customers were likely to buy and did buy. I read elsewhere that their CEO sees one of their advantages as being better and more agile than others in managing their supply chain and this RNS does seem actually to bear that out. It’s, imo, the absence of “numbers” in the RNS that has spooked the market. Perhaps the CEO and BOD need to start thinking more about the quality of IR?

Mercurius

Thanks very much for cross posting this. I was actually going to post up my reply to your question before you did this...but now you have given me the perfect excuse. Thanks.

Thanks for reading (apologies for the long reply in advance).

On the lack of numbers, I don't think it is that unusual to do this sort of thing…but you are totally correct…what an own goal! I have written a few times about the need for as much disclosure as possible, obviously a lot of companies don't like that but this is an example of why they need to get behind it.

I think my interpretation of things was slightly different, although I think only on the details. I read the volume comment as referring to the amount of units sold. The problem was that volume was flat but the average price of the shoes was lower i.e. we sold 10,000 pairs of shoes last year at an average price of £10 for £100,000 in revenue, this year we sold the same number but the average price was £9 so revenue was down 10%. The average price fell, as I understand it, because the full boots sell for more than the ankle boots. So the overall number of shoes sold was the same but price fell due to changes in the product mix.

Where I am slightly more unclear is on the inventory situation. If they had to discount to move this stock then average price would have fallen even further and gross margins would have been crushed. However, the release said that margins were fine and no “additional discounting" was done. I am not quite clear on what this might mean.

On the one hand, it looks like this is just a seasonal thing and revenues fell because people bought cheaper shoes. On the other hand, I get the sense that profit missed in quite a big way, i.e. fell more than revenue suggesting a fall in margins. It just sort of looked to me like everything pointed towards discounting but then they explicitly state they didn't do this…

So my assumption yesterday was that everything actually did work fine, all the products did sell through…but my criticism was that management should have been a lot more aggressive in shifting their inventory towards ankle boots to counteract the fall in average price i.e. increase volume of ankle boots at the lower price.

In retrospect, this was a bit harsh. There are quite a few issues with this strategy and management probably did the right thing. However, the big question is…if these guys are, as you say, so good with the supply chain then why couldn't they shift things about. Let's say they did discount the full boots, these would shift and you increase the number of ankle boots you have in stores. At that point, your average price and revenue are way down but you are betting that you can make it up by selling the lower priced shoe in much higher volume. If you are good with the supply chain, you should make these kind of bets…so the question is why didn't they?

Apologies for the length but the conclusion then is that, as you say, they did actually have everything that consumers wanted to buy in stock. I think investors did take flight for the lack of numbers but the question should also be about how they managed expectations (it would have been clear some time ago that revenue would be lower) and execution. As I say above, I think this also demonstrates the volatility of the business model as the differences in price at the lower end are probably quite large.

Of course, I got things totally wrong here and the shares are down 8% or whatever today…so why listen to me?

Shoe Zone: First Step

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Mercurius

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