As a brand latched on to by punks and skinheads and other youth subcultures, Dr Martens has marketed itself heavily as a counterculture fashion symbol. But its new-found outsider status with investors will be a less comfortable fit for the former stock market darling.
Shares in the FTSE 250 bootmaker have fallen by almost a quarter from the peak reached a little over two weeks after the January initial public offering, which was priced at the top end of expectations.
Investors will be hoping the shares don’t go the way of some of the other companies brought to market by Permira, the private equity group. Think of the dire showing of Saga, the insurer, or AA, the road services group. Dr Martens isn’t in the same basket-case territory as that pair.
Net debt is in check, equating to 1.15 times earnings before tax and other charges at the end of March. That’s even after accounting for lease liabilities, worth considering given plans to add to the rent bill by opening 20 to 25 stores a year.
Sales growth has come in at a decent clip at 15 per cent last year and at a compound annual rate including the three years before. Keeping a tighter rein on costs has expanded the margin, which at 29 per cent last year trumps other shoemakers such as Nike, Puma and Adidas and is closer to that of the luxury goods groups LVMH or Richemont.
Dr Martens wants to boost margins further by increasing the proportion of shoes sold through its own shops and website, with less from third-party retail channels. Last year direct-to-consumer sales accounted for 43 per cent of the group’s total against a medium-term target of 60 per cent.
The 61-year-old group has more substance than some of the puffed-up stocks on the London market, but a forward price-to-earnings multiple of 44 at the time of the IPO looked fanciful. The shares’ current forward earnings multiple of 23 shows investors are coming to their senses but it’s still not appealing.
Sales growth figures might not be so flattering during the second quarter as the first, when they were 52 per cent ahead of last year, as comparatives get tougher. Global freight congestion risks adding to the slowdown in sales growth and higher shipping and raw materials costs threaten to also squeeze margins.
Almost all the company’s wares are made by third parties in Asia and the group has warned of inbound shipping delays. It may source raw materials from more than 200 suppliers but for some key items, such as black smooth leather, it relies on a limited number of suppliers, heightening the risk of disruption.
Take a look at the fast-fashion groups and fellow sell-off victims Asos and Boohoo. They might have had other problems — the surprise exit of a chief executive and supply chain scandals, respectively — but the hammering given to the shares on the back of cost inflation warnings shows the damage any hint of margin weakness can inflict.
With a steep price tag that comes with high expectations, there’s also the risk of quality and service complaints. Dr Martens has said that defects accounted for 0.5 per cent of shoes produced last year but a Trustpilot score of 2.8 stars out of 5 is hardly the best promotional material.
As a purveyor of chunky, laced-up, boldly stitched boots, the brand has a clear identity. But a singular focus also means Dr Martens’ sales are highly susceptible to fluctuating fashion tastes. There are also factors outside management’s hands, namely a resetting of what investors seem prepared to pay for growth in future cash streams. So there’s plenty of room for more upsets for investors.
ADVICE Avoid
WHY High earnings expectations, supply chain disruption and rising inflation leave the group exposed to profit-margin disappointment
Baillie Gifford US Growth Trust
Conditions have been sweet for most of the Baillie Gifford US Growth Trust’s lifespan since it was launched at the start of 2018. Benign inflation and historically weak interest rates have turbo-charged valuations for companies promising high earnings growth.
For the FTSE 250 constituent, a technology bias has led to impressive returns. During the three years to August it generated a 155 per cent share price return, almost three times the 56 per cent returned by the S&P 500, its benchmark.
However, since the start of the year, expectations of tighter monetary policy and a subsequent shift away from growth stocks have caused the trust, which invests in a mix of public and private American companies, to falter.
Add to that a lack of dividends and since the start of this year the trust has generated a share price total return of just 2.5 per cent versus 20 per cent from the S&P 500.
Kirsty Gibson, co-manager of the fund, maintains that backing genuinely disruptive companies should lead to superior returns during a five to ten-year period than getting bound-up in short-term valuations.
However, as bond yields tick higher, sentiment counts for a lot in investment markets. Some holdings such as the ecommerce giant Amazon (4.3 per cent of assets), look like safer bets, while others, including the loss-making electric carmaker Tesla (3.7 per cent), carry greater risk of the tide turning away.
There is also illiquidity risk, although private companies accounted for just over 17 per cent of the trust’s total assets at the end of August, that proportion could increase up to 50 per cent under the threshold set. To compensate for the risk of not being as easily able to retrieve capital invested in those companies, the portfolio manager has set a higher hurdle rate for a return of five times that invested in private companies over five years versus a multiple of 2.5 for public entities.
A narrowing of the gap between the trust’s share price and net asset value since the start of the year should not be interpreted as value.
ADVICE Hold
WHY The shares are trading broadly in line with the trust’s net asset value
