The timing is terrible for Burberry’s makeover. Over the past two years, the British fashion house has made changes to the three top roles. That includes Daniel Lee, its new creative director, whose collections have been in Burberry shops for only a matter of months.
The macroeconomic slowdown has obfuscated just how well Lee’s autumn/winter designs have gone down with fashionistas. Weakness typically hits one market at a time, rather than everywhere at once, Jonathan Akeroyd, the group’s boss, has pointed out.
Underlying shop sales during the second quarter slowed to 1 per cent, from 18 per cent in the first quarter. The average Burberry shopper might have more spending power than the typical high street customer, but inflation and higher interest rates have still made their mark.
If the status quo continues, Burberry is unlikely to achieve previously stated revenue guidance of low double-digit growth for the full year, pushing adjusted operating profit towards the lower end of the consensus range of between £552 million and £668 million.
The warning implies revenue growth in the second half of the year that is at best in the mid-single digits and at worst flat over the same period last year, reckons investment bank RBC Capital. The trajectory is not good. As the second quarter came to a close in September, sales in China started to slow further. That market accounts for 30 per cent of Burberry’s total sales. Sales from Chinese tourists to Europe have recovered well from Covid travel curbs.
However, weaker domestic demand caused the rate of growth in shop sales over the second quarter to almost halve to 8 per cent, from 15 per cent in the June quarter. That could slow further as easy annual comparatives fall away.
The so-called tourist tax — the 20 per cent VAT shopping refund for foreign visitors — has also hindered sales in Burberry’s home market. Yet the Americas have suffered the most dramatic decline, down 10 per cent in the second quarter.
The prospect of another profit warning is already baked into the shares. They trade at just 13 times forward earnings, the lowest since 2009. Earnings are forecast to fall by 10 per cent this year. Even if the downturn is twice as bad, the shares’ forward earnings multiple would still amount to just under 16 — still a discount to the long-running average. That could help insulate the shares against a more pronounced fall.
Burberry is not alone in falling out of fashion with investors. Shares in Kering and LVMH have also fallen over the past six months, but both French fashion groups remain valued at a premium to Burberry. That speaks to a more fundamental challenge. The British fashion house has long struggled to convince the market that its luxury credentials match up to publicly listed rivals.
The group’s pricing strategy has historically been skewed towards a lower price bracket than peers, Akeroyd has said, something that is being reviewed as it attempts to “elevate” the quality of its products.
Akeroyd is loath to cut back on customer-facing areas of spending such as marketing. During the first half of the year adjusted operating expenses rose 10 per cent at constant currencies after spending on shops and advertising, outpacing the rise in revenue. The adjusted operating margin declined to 15.9 per cent, from 17.7 per cent over the same period last year. Outlay on distribution and its production facilities also contributed towards a free cash outflow of £15 million.
Management is confident that it can hit a three to five-year sales target of £4 billion, and £5 billion over the long term. Analysts think the outer limit will be possible, forecasting £4.2 billion in revenue not until 2028. There are plenty more challenges that could emerge between now and then, which could prevent Burberry hitting that target.
ADVICE Hold
WHY The shares are deservedly cheap given the macroeconomic downturn
Premier Foods
In a cheap UK equities market, Premier Foods is a clear takeover candidate for bargain-hunting institutions. Yet it is not only the shares’ undemanding forward earnings multiple, of just ten, that could perk interest.
A second upgrade to profit guidance this year indicates some of the strengths of the group, which is behind brands including Mr Kipling cakes and Bisto gravy granules. The group has increased the proportion of higher-margin branded goods, which rose 16 per cent during the first half of the year, and pushed established UK brands into new markets such as the United States and Australia.
Adjusted profits this year are now expected to be 10 per cent ahead of last year, better than the 4 per cent growth previously guided towards. Price increases have helped offset cost inflation and margins were held for the first six months of the year.
Cash generation is rising and during the first six months of the year it churned £27 million of free cash. That helped reduce debt by about a fifth to £273 million, or 1.3 times the earnings before interest, taxes and other items forecast by brokerage Numis this year.
There is the chance that more cash will be unlocked if plans to shift its pension scheme liabilities off its balance sheet in three years go to plan. Its defined benefit schemes are in a combined surplus and cash contributions from Premier are falling by an annual £5 million, amounting to £17 million in the first half of the year.
The group has not been immune to squeezed consumers trading down. Revenue for branded sweet treats such as Mr Kipling declined almost 3 per cent over the first half. Yet easing cost inflation means Premier expects to lower the price of products sold on special offer — a significant driver of volumes — during the second half, which should help demand.
If the FTSE 250 constituent can recover volumes as expected into the peak Christmas trading season, there is the chance that the food producer could deliver a third profit upgrade to the market.
ADVICE Buy
WHY The group remains a likely takeover target
