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Dunelm profits drop but shares surge on Worldstores optimism

By Oliver Haill

Date: Wednesday 13 Sep 2017

Dunelm profits drop but shares surge on Worldstores optimism

(ShareCast News) - Profits at Dunelm dropped towards the lower end of expectations and while there is caution at the homewares retailer about depressed consumer spending, the new financial year was reported to have started well.
Revenue for the year to 1 July of £955.6m was up 8.5% on the prior year, with like-for-like sales down 2.4%, while profits before tax of £109.3m at the underlying level were down 15% as per management's £109-111m guidance.

Reported PBT was down 28% due to the acquisition of Worldstores, which led to £17m of exceptional costs and a dilution of the gross margin.

Underlying earnings per share fell 15% to 42.8p, although the ordinary dividend was up 4% to 26p reflecting the strength of the balance sheet.

Operating costs increased 15% compared with the prior year, more than half of which related to those from the Worldstores business for the last seven months of the year, while underlying Dunelm operating costs rose 6% as seven new superstores were opened, and spending increased on logistics from the addition of a second warehouse, investment in IT and increased marketing.

"The Worldstores acquisition provides a step change in our online scale, product range and capability," said chairman Andy Harrison, who has taken on an executive role after chief executive John Browett was shown the door last month.

Over the medium-term Harrison and deputy chairman Will Adderley, part of the founding family, are aiming to double sales to £2bn, with 30%-40% from what is an increasingly important online channel, which grew sales 24% to £76.5m but still represents only a tenth of total turnover.

Harrison said the much-reduced reported profit reflected an investment of nearly £28m in Worldstores, of which he added "the integration is going well and we remain confident in the benefits that it will generate", reiterating the "near break-even" target for the current year and £10m further improvement in 2019.

The new financial year is expected to see a challenging trading climate remain, with the disposable income of UK consumers under pressure.

"Nevertheless, we have a full programme of management actions underway to further improve the Dunelm customer proposition, both online and in-store, increase our business efficiency and support our colleagues."

Sales in the first two months of the new financial year "started positively", with good LFL sales boosted by favourable weather comparatives and four new stores already opened of the eight planned.

A full first-quarter update is scheduled for 11 October.

REACTION AND ANALYSIS

Shares in Dunelm leapt almost 8% to 662p by late morning on Wednesday, a level that has not been sustained since February.

Independent retail analyst Nick Bubb said after the sudden departure of CEO Browett two weeks ago, Dunelm shareholders would be reassured that recent trading has been positive and that the Worldstores integration is going well.

UBS analyst Andrew Hughes said the Worldstores business future-proofs the business, bringing "a huge increase in product range, an improved two-man delivery service, improved IT skills and an entry into the nursery category", with the deal accelerating operational progress, at the expense of additional P&L losses and exceptionals.

"This is a key year in terms of migrating customers to a Dunelm Extra offer, but WS losses are expected by Dunelm to fall in FY18 to a few million as customer acquisition costs and double-running expenses fall away. In FY19, Dunelm expect a further £10m profit improvement as many of these plans should have been completed, if not yet fully optimised," Hughes said, forecasting 49p and 55.3p EPS for the current and next financial year.

The results underpinned the positive opinion of N+1Singer analyst Jamie Constable, who said they showed that 2017 "was the year of transition" with a heavy period of investment and the WorldStores losses post acquisition, warehouse duplication/disruption and new store openings.

"The reversal of the first two items accounts for all the forecast growth for the stock in the new year so basically no underlying growth - potential for upgrades there methinks," he wrote, while also pooh-poohing consensus forecasts for return on invested capital halving over three years.

"We see a strong chance for upgrades as returns on their investment deliver to reverse this. On the balance sheet net debt increased £43m to £122m which includes £48.7m stock - partly inflation but also volume led to meet demand and ease flow in the new warehouse."

Barclays said management mentioned that in 2018 there should be a circa £12m uplift in PBT compared with what would have been an annualised loss of £15-20m as Worldstores approaches profitability.

The first half should have easy comparatives for the core business, while Worldstores losses could dampen results. "In the second half we expect Worldstores losses to come down, lifting overall company profitability."

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