Australian retail sales rose 2.1% year-on-year in May 2024, which is the best underlying rate of growth since November 2023. The glass half-full would suggest we may be past the trough for retail. The glass half-empty is that the rate of growth is still very weak and indicative of per capita declines in retail volumes. We do think we are now past the trough in volumes, but we don’t expect a swift recovery in retail spending.
The proposed merger between Chemist Warehouse and Sigma will create a business with close to $760 million of combined annual EBIT with growth of 12%-19% over the next four years. However, the first hurdle is ACCC approval which may be a drawn-out process. While there is an impressive growth profile, the prospects for rollout beyond Australia and New Zealand is still in its infancy. The upside case would see continued elevated like-for-like sales growth and a seamless integration of the Chemist Warehouse contract.
The spike in spot sea-freight rates is likely to remain topical over the next few months and add to concerns about retail profit margins in FY25e. Our feedback is that spot sea freight rates for Australian importers are now close to 3x the low point seen only 12 months ago. The good news is many retailers have 12-month contracts. The bad news is that it looks like a step-up in freight rates is coming either way as we move through FY25e and adds risk to earnings. The retailers most exposed to higher sea freight rates are Nick Scali, Wesfarmers and Super Retail Group.
Myer’s proposed merger with Premier’s Apparel Brands is a convenient solution for two ex-growth businesses. For Premier, the inferred multiple is only 4.1x EV/EBIT, which is low. Premier shareholders could receive 8.2 Myer shares, with upside through an estimated $55 million in synergies. The majority of the synergies will come from adding Premier to Myer stores in concession space and improved terms on sourcing product. The merger raises the prospect that a further Strategic Review for Premier is unlikely to crystallise much value.
Metcash reported FY24 EBIT down 1% and, adjusted for acquisitions, it was a similar result in both the first and second-half. The company is actively managing costs to offset weak sales trends and this thematic is likely to be a feature again in FY25e. Metcash’s performance relative to market growth remains impressive and is the primary reason for our positive stance on the stock.
City Chic’s exit of Avenue and capital raising conclude an incredibly painful experience of global ambition and then retreat. The City Chic brand has a strong following in Australia but has been impacted by excess inventory. The company is addressing its cost base but more savings will be needed to restore profitability. Moreover, store openings seem unlikely at this stage given the poor sales productivity.
Nick Scali is a furniture retailer that has exhibited consistent growth over the long term. We see the store network growing to 153 over the next four years to FY27e, a compound annual growth rate of 9%. New stores will come in both existing markets and the newly entered UK market. The opportunistic, low-cost entry into the UK sets a base from which to expand the Nick Scali brand into the UK.
Treasury Wines update on its Penfolds division highlights the confidence the company has in the long-term global demand for its luxury wines. The company has lifted key product prices by 6% and will have more luxury wines to sell by FY26e under Penfolds Bin & Icon labels. The biggest swing factor for long-term earnings growth in this business will be the momentum in the global luxury wine market.
Bapcor has disclosed a conditional indicative offer from Bain Capital at $5.40 per share, a 23% premium to the 1-month VWAP. We expect the Board will view the offer as opportunistic and may not even allow due diligence at the prevailing offer price. Bapcor’s EBITDA margins are well below US peers and its own aspirations under the Better Than Before program. While Bapcor’s realisation of cost savings has clearly been delayed, the company still believes in the long-term potential for better profit margins. We place a 25% probability of a takeover proceeding for Bapcor. A successful takeover offer will require a price over $6.00 per share in our view and Board support.
Treasury’s site trip and our meetings in Paso Robles have highlighted the advantage Treasury has in this fast growing wine region. Treasury’s existing facilities combined with extra luxury wine supply at DAOU provides an underpinning for sales and EBITS growth in the Americas. The distinct advantage at Paso is its far lower cost of production. We expect the company to deliver on synergies and double-digit revenue growth from its luxury portfolio and investor confidence in the DAOU acquisition will grow following the trip.