Guidance upgrade

A combination of nips and tucks has seen Myer get its full year sales across the line with a 0.7% increase to $3.2 billion. The company announcement included the surprise news that it would upgrade its operating earnings guidance for the 2010 financial year.

Myer is not due to report is maiden full year profit until 16 September, but used the opportunity of the full year sales announcement to upgrade its operating earnings guidance. The Prospectus contained a forecast that Myer would generate EBIT of $261 million. With the benefit of another eight months under its belt, the company is now guiding the market to expect operating earnings (EBIT) between $265 million and $272 million.

Myer Holdings broke out from the recent consolidation at $3.51 to surge higher reaching a high of $3.74 on August 13. The rapid appreciation in price has resulted in the relative strength index (RSI) dipping into overbought territory. This is a sign of short term exhaustion of the upward move and that we will likely see a minor pullback.

The uptrend in place since May bodes well for a continued move higher over the coming months with the potential to test the November 16, 2009 all time high of $3.98 over the broader term.

Given the flat total sales growth, the obvious explanation for the upgrade is to look at the cost management of the business. Among many projects the company has initiated, the CCTV project has now been completed and is making a contribution by reducing shrinkage.

The rollout of the new point-of-sale system is also progressing and will be fully functional in time for the crucial Christmas trading period. The early signs are very positive with respect to the reduced customer service time but there will also be benefits in more accurate stock information as well. This will be important for more effective working capital management over time, so the real financial benefits of this project won’t be seen in this year’s result.

Perhaps the nicest surprise was the revelation that the Myer Exclusive Brands (MEB) strategy has been working well. Sales of MEB lines have grown ahead of group sales which will drive significant margin improvement. Although it cannot be quantified from the sales release, this will be a point worth focusing on at the profit release. We expect MEB sales represent approximately 17% of total sales.

Myer has changed its sourcing, especially with regard to offshore purchasing, and should drive lower cost and therefore higher margin from this factor as well.

A feature of the retail industry in the past year has been the prevalence of promotions and discounting as the effect of the 2009 government cash payments fades. The underlying demand pattern is now being exposed and it has not been great for many specialist retailers or indeed for department stores. A quick scan of the larger retailers’ same store sales growth across the last four quarter shows a very anaemic trend as consumers have stretched last year’s wardrobe a season further.

Myer has not abstained from a little promotional work itself, and has utilised its large MYER One customer database for this purpose. In the fourth quarter, Myer conducted a ‘secret sale’ that was used to move additional inventory. This sort of tactic may be used again to smooth out the sales and inventory lines.

With regard to year end inventories, we understand the level of stock is down on the same time last year following better sales through June and July.

Categories that have performed strongly for Myer throughout the year include children’s wear in apparel. Men’s and women’s apparel has also been strong driven by better pricing and ranging. Furniture and bedding was also improved in line with industry experience. We were a little surprised that cosmetics performance was flat as this is generally a category that performs rain, hail or shine. It is also usually a very high margin category so comments relating to this at the full year result will be worth looking for. As with the wider market, electrical products have struggled, particularly from the heavy price deflation that has been rampant in the sector.

On the store front, Myer has a very good story to tell. As the company heads into the Christmas trading period, it will have the benefit of two new stores and the completion of three refurbishments. Importantly, it will also have the Melbourne CBD store in Bourke Street making a contribution after its major rebuild. The Top Ryde store in Sydney has just opened in a brand new shopping centre and will enjoy a honeymoon period as consumers check out the new precinct. The Robina store in Queensland will also open in October, in time for Christmas.

The combined effect of the new and near-new floor space will provide sales momentum throughout 2011 but will make a greater earnings impact from 2012.

Looking further out, Myer has 14 new stores opening across the next four years. Stores in Mackay and Townsville have begun construction. At around $6 million each, these two regional stores are approximately 10,000 square metres each and should produce annual sales of $30-35 million from year two.

With the market’s positive reaction to Myer’s sales release, the stock is now trading almost at the same price as the day after its listing in November 2009. Members will recall its IPO price was $4.10 per share.

At the current share price, Myer is now trading on a PE ratio of 11.6 times forecast consensus earnings for 2011 and 10.3 times 2012 earnings. The net dividend yield for the same two years is 6.5% and 7.1%.

With the full year profit announcement just weeks away, we are now changing our recommendation to a hold until the detail can be assessed.