Investors in Travis Perkins seem a hard bunch to please. Give them a profit upgrade and what do they do? Mark the builders merchant’s shares down straight off the bat. But they are right to be cautious.
On the face of it, conditions for the business are breezy enough: the combination of housebuilders and construction companies playing catch-up, together with a DIY boom from bored homeowners, has lifted sales ahead of 2019 levels. Like-for-like revenue was up 14.2 per cent during the third quarter and was 13.3 per cent ahead of the pre-pandemic figure. After banking £40 million in profit from the sale of property, too, adjusted operating profit is expected to be at least £340 million this year, £30 million higher than was suggested in August.
So what’s the problem? A meagre 1.4 per cent underlying revenue growth for the Toolstation business might be the issue. That’s below what investors have become used to. There is a strong comparator in last year’s rise in home improvements, which led to strong demand for the sort of “lightside products” such as screws and drills from the DIY enthusiasts and small trade outfits that the business caters to. Revenue was also 25 per cent ahead of 2019.
Yet any hint of a slowdown in revenue growth is more of an issue because the group is spending on rolling out branches in Britain and Europe, part of the reason the operating margin is lower for that business than its general merchanting operations, at 2.5 per cent during the first six months of the year. The company wants to expand that margin to more like 8 per cent, but hitting that depends on the rate of sales growth remaining sturdy. Flor O’Donoghue, an analyst at Davy, the broker, thinks “that’s quite some time away” and sees better growth potential in Grafton, Travis Perkins’ peer.
Toolstation may account for only about a fifth of the group’s revenue, but the business is being eyed by the market as the future hope for earnings growth.
The vast majority of the 11.8 per cent sales growth reported during the third quarter for the merchanting business came courtesy of price inflation; sales volume growth versus 2019 was more like 2 per cent to 3 per cent. On one hand, it’s good that the business is able to pass on higher materials and product costs to customers; on the other, there’s the question of just how much of the sales boost will carry into next year when the imbalance in supply and demand that is driving inflation eases.
Shorn of its heating and plumbing business and Wickes, the DIY chain, Travis Perkins has honed its focus on the merchanting market. That’s resulted in a more focused company, with twenty business units stripped down to five. A restructuring programme last year, which resulted in 85 Travis Perkins merchants closing and a workforce shrunk by 9 per cent, is expected to generate annual cost savings of £90 million.
Other positives? The balance sheet is in decent shape, with net debt of £105 million, or 1.5 times earnings before tax and other charges. And the business is highly cash-generative, converting about 88 per cent of operating profits, excluding property sales, into free cashflow during the first six months of the year. The dividend was scrapped last year, but was reinstated at this year’s interim results and analysts expect a total payment of 64.37p a share this year. At the present price, that leaves the shares offering a not-too-shabby potential dividend yield of around 4.2 per cent.
Will the Toolstation rollout yield the profit growth desired? The jury’s still out. It’s fair enough to be wary.
Advice Avoid
Why At 17 times forward earnings, the shares do not offer compelling value while questions remain over whether it can deliver on its ambitions
Wickes
Wickes was given a head start in its opening run on the London market — a surge in demand for DIY and garden products amid successive lockdowns accelerated sales growth — but now investors are getting antsy.
The home improvement retailer’s shares are about 14 per cent lower than they were at the time of the demerger, equivalent to nine times forecast earnings for this year. You could blame some foot-finding, but there’s also wariness about just how much demand will fall from the pandemic highs of earlier in the year.
You can see why. Revenue may be ahead of pre-pandemic levels, but it fell by 1.6 per cent during the third quarter, down on growth rates of 47.6 per cent and 19.7 per cent for the second and first quarters, respectively. Like Travis Perkins, the chain’s former parent, “tough 2020 comparatives” were named as the culprit. “Do it for me”, or DIFM, sales — things like bathroom and kitchen fittings — have yet to recover from stores being shut during lockdowns.
Under the terms of the April demerger, investors in Travis Perkins became shareholders in Wickes. Suspicion that more liquidity-constrained big American shareholders will continue to reduce their holdings also hangs over the stock, according to Peel Hunt, the broker.
Wickes was in a net cash position at the end of June, but lease liabilities are higher than Grafton and Travis Perkins, at £769 million. If included, that leaves leverage higher versus earnings before tax and other charges. There’s also the question of how long it can balance sales price competitiveness while sharing some of the pain of cost inflation.
Revenues are split fairly evenly between DIY, DIFM and local trade. Since the summer, orders for the DIFM business have settled back in line with 2019 levels.
However, pre-tax profit was £35.7 million over its maiden first half, a figure analysts expect to rise to £51.7 million for the year-end. After an interim 2.1p payment, there’s a decent dividend anticipated, with a consensus figure of 7.03p a share slated for this year, equating to a potential dividend yield of about 3.3 per cent for shareholders.
Advice Hold
Why Inexpensive valuation compensates for uncertainty
