Browsing the news section for Next Plc yesterday uncovered a nasty surprise. Yet another Motley Fool article that scratches a few metrics of a stock then deems it a buy…
Browsing the news section for Next Plc yesterday uncovered a nasty surprise. Yet another Motley Fool article that scratches a few metrics of a stock then deems it a buy or sell. This week was the turn of Next, which I find interesting as a shareholder. Royston Wild notes;
“Like Tesco, clothing colossus Next (LSE: NXT) is also being battered by a backcloth of rising competition and the need for savage price cuts.
Competitive pressures have been a particular problem for the retailer’s Next Directory catalogue division, which stole a march on the rest of the high street with the early embrace of e-commerce. But its rivals have invested heavily in this growth channel more recently, giving Next a run for its money.
And I expect revenues at Next — which has already disappointed investors with profit warnings in recent months — to struggle still further as a probable lurch into recession quells British shoppers’ demand for new clothes, and drives footfall at cut-price operators like Primark and H&M.
I reckon Next is an unattractive stock selection at the present time, even in spite of a conventionally-decent forward P/E ratio of 12.4 times”
What Mr Wild isn’t taking into account here is the financial metrics of Next, its superior margins and the ability of management to deal with change.
There’s no doubting that the retail sector is full of competition, and although Next Plc is noting tough trading conditions their lean approach to operations enables them to operate at an operating margin of 20%. Next also have a history of growing EPS despite tough conditions with a growth from £2.51 per share in 2012 to £4.43 in 2016. Mr Wild notes that a squeeze on the spending of Brits will drive customers to low-cost competitors such Primark and H&M but he fails to note that we’ve been here before!
Think of the biggest recession of recent memory – 2008. How did Next perform? Whilst it’s true that sales suffered with like for like retail sales down 7% the company proved its durability by maintaining its dividend payments and keeping a robust balance sheet. Next is a company that has performed exceptionally well since it flirted with bankruptcy in 1998 and the lessons learnt then still shape the company today.
Mr Wild notes in his article that competitors are finally starting to catch up with Next directory. Many may also be fearful of online competition from online only retailers such as ASOS. Whilst it may be the case that competitors have caught up and it may appear that this has had a negative effect on the performance of Next directory the figures paint a different picture. In fact, Next directory sales increased by 8% between 2015 and 2016, with Next retail also growing by an admittedly anemic 1%. The online retail sector is going to continue to grow and I see no reason why Next can’t compete and continue to grow its Next Directory sales.
Future EPS growth.
This is admittedly a worry for the company as it competes in a tough market and with the company already lean it’s hard to see how growth could be achieved through greater efficiency.
I expect Next’s growth to remain steady over the coming years as they fight to defend their market share. I don’t expect Next to flourish, but I certainly expect it to be solid and sound until consumer spending picks up.
What’s great about Next is that management loves to buy up its own shares when they feel they are undervalued, usually at or under £65 a share. Showing that their confident in their performance and that the company has access to cash if needed. The share price currently sits at £54 a share, sporting a low p/e ratio of 12.2 given that the company was trading at 17.6 times earnings in 2014 and 17.3 times earnings in 2015.
This is what really attracts me to Next plc. The dividend payout ratio for the stock in 2016 was only 36%, meaning that the company is comfortably covering its payments and has plenty of room to increase the payout ratio to maintain the dividend over the coming years even with weak EPS growth.
The current dividend yield on offer is a decent 2.9%, nothing to get excited about but better than a bank account in the current environment, one must also consider the company’s habit of paying a special dividend with its spare earnings when it considers it share the price to be overvalued. This year they paid a juicy special dividend of 60p. Whilst investors should never expect special dividends, they’re always a bonus and can help boost your dividend income. For illustrative purposes, if we included the special dividend it would give Next a yield of 3.8%.
Whilst admittedly Next wasn’t my wisest buy ever, I certainly wouldn’t tell investors to ‘avoid at all costs’. Next has a great management team that came through 2008 and I have full confidence in their ability to come through any coming recession, we might even see a few less lean competitors suffer! Yes, competitors have significantly improved their online offering but that doesn’t mean that Next directory can’t continue to grow in a growing market.
Next deserves its place in my portfolio and I will only sell if managements attitude towards the dividend changes or if its fundamentals deteriorate significantly.
Disclosure: Long NXT