Many of us had been enjoying the sunny weather and football — until last night — but it hasn’t been as much fun for sofa retailer DFS Furniture (LSE: DFS).
On Thursday morning the company issued a profit warning, blaming hot weather and shipping delays from the Far East. The company says orders during the current quarter have been “significantly lower than expected”.
This has contributed to a 4% fall in total like-for-like delivered revenues for the 49 weeks to 7 July (the firm’s financial year ends on 29 July). Earnings before interest, tax, depreciation and amortisation (EBITDA) are now expected to be lower than last year.
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This could be serious
I’d normally write off today’s news as a one-off with little real significance. After all, customers planning to buy a new sofa are probably just waiting for a wet weekend to go shopping. Similarly, shipping delays are unlikely to be a long-term problem.
What concerns me here is that the fourth-quarter fall in sales continues a trend seen during the first half of the year, when revenue, excluding acquisitions, fell by 3.5%.
A second worry is that the business carries quite a lot of debt. Net debt was £172.3m at the end of January, equivalent to 2.17 times underlying EBITDA. That’s above my preferred safety threshold of 2x EBITDA.
Why I’d shun this stock
A look at the balance sheet suggests to me that DFS offers very little margin of safety for shareholders. In its half-year results, the group reported current assets — cash, stock and orders — worth £114.3m.
Set against this were current liabilities (bills due within one year) of £230.6m. In addition to this, the company had gross debt of £185.6m and £79.8m of “other liabilities”.
My reading of this is that DFS is dependent on stable sales to finance its debts and dividends. If sales and EBITDA fall, I believe the group could run into financial trouble. This would be bad news for shareholders, who could see big losses and might have to support a rights issue.
For these reasons, I view DFS as a stock to avoid. Although the forecast dividend yield of 5.8% may be tempting, I think there are much safer options elsewhere.
One consumer stock I’d buy
Furniture retailers aren’t the only consumer businesses which have seen a drop in sales during the hot weather. Travel firms have also seen lower levels of booking than expected. I expect this trend to reverse over the next few weeks, as people complete their summer holiday plans.
Although the good weather means that UK-based holidays might be more popular than usual, I believe that package holiday operators such as TUI Group (LSE: TUI), which owns Thomson Holidays, should still do well.
This firm has been my top pick in this sector for some time and has risen strongly, gaining nearly 40% over the last year. The good news is that the recent pullback in the share price has left the stock with a forecast dividend yield of 3.7% and a very reasonable forecast price/earnings ratio of 13.5.
This looks affordable to me, given that sales rose by 8.5% during the first half of the year. Bookings should peak over the next few weeks. In my view, this could be a good time to buy more.
