LOV –TOP 10 Holding—FY24—"once more unto the breach”

Result review – all numbers were above my estimates, with sales $699m ($698m) up 17%, NPAT $82m ($75m) up 21% and stores 900 (+12%) at end of year (est 876). The result included a small impairment and a lower tax rate, adjusting for these the NPAT was circa 3-4% better, GM driven. [note these estimates are my own, not consensus, not reliant on sell side research, I assess the result with a five-year timeframe in mind (not trying to game a beat or miss). The aim is to derive a 5y eps estimate and exit PE, I do consider any guidance (if given).]

My overriding assumption in consumer discretionary for FY24 was a tough operating environment. There are multiple examples globally of firms suffering at the top line and bottom line from luxury goods to QSR and everything in between.

The mix of store performance (rev/store) was quite marked, which shouldn’t surprise us as much as it does. Basically weak everywhere except the US and Europe (the big drivers going forward) which did well. Note that the FY24 expectations for stores were below the expected sales indicating disappointing per store sales. The mature markets of ANZ struggled with a reasonable pull back in store sales. Not too surprising given the maturity and the local economic conditions. Asia was quite disappointing and the growth here will be hard fought, IMO. Europe and US were good, especially good given the conditions, and with both economies at the start of easing cycles the outlook should ultimately improve. LOV mentioned the opening of a warehouse in the US (the first) which will significantly help logistics and store economics in this big market. There could also be an acceleration in the store roll out with the w/h open.

The store rollout was described as disappointing but comes off a very strong Fy23, which I suspect led to over exuberant extrapolation. As mentioned, the store rollout result was above my estimates, but having delivered +99 (net) into a tough environment, it can be considered that a run rate in the 100-200 is not unreasonable going forward for the next few years. LOV has been consistent in messaging that the opportunity is large but rollout is dependent on obtaining sites that underwrite profitable growth and that will be lumpy in execution. Clearly LOV is run like a private company not overly concerned about targets if they come at too high a price.

LOV continue to move into new “frontier” territories although Europe and US contributed 64% of the store growth. (Note US had low growth, hopefully will change with the warehouse coming on). The new countries include some unusual ones in Africa and LOV has consistently said that although some of these stores have low per store revenues, the lower CODB make them more profitable, eg. South Africa being a very profitable country for LOV.  

GM was surprisingly strong at 81% (+110bp), driven by price and stable costs. LOV stated that the price rises were targeted by range and geography not across the board, and had seen no impact on sell through.

LOV indicated that they are entering digital channels with a series of them lined up across the globe. Of course, we have to trust that LOV negotiates terms that are suitable and don’t undermine the value of the product. As one of their major strengths is that LOV controls their supply chain not allowing inventory to migrate. LOV stated that digital is comparable GM, they do not use it as a  clearance channel. In regard to China, the online channel is much more important than in other countries, which makes it very tricky. There are lots of examples here of trouble with retailers dealing with BABA/JD etc. Taking their time on entering the market is very wise, many have been skinned in the Chinese market and there is a lot to consider such as the physical store/online dynamics (price/margin) and mix. China is still considered a large opportunity.  

The accounting for LOV is usually very straightforward. Much so this year with FCF very strong allowing a dividend above EPS. FCF exceeds NPAT +Depn. Inventory was reduced to low levels, so no signs of overstocking. There was an unusual movement in SHF with a reduction in “other reserves” of $23m, which looked odd, potentially the CEO LTI being allocated.  

Valuation

The intrinsic value of LOV continues to move higher as it adds assets above the cost of capital (like all quality growth companies). Assuming a 15% eps compound for the next five years, adding dividends and an exit multiple of 25X, to generate a 10% return would require buying in the $27-28 per share range (my base case with a margin of safety). EPS Growth of 20% pa gives a buy target of $33 to give an idea of sensitivity. LOV is no longer the underappreciated growth story, the level of ownership by ST trend followers is much higher and that will lead to volatility but the growth story remains intact IMO.

The change of CEO and the lagging effect of any cuts in interest rate on activity do potentially present some ST risks of some softness in the next couple of results.

Other issues

Im always interested in what concerns the market with LOV.

1.     The Taylor Swift effect will have to be comped in Oz and Europe.

2.     The stock turn in LOV is very low 2X, the model is different with high margins supporting the economics (lack of turn), and a long tail of inventory in store to support choice.

3.     US tariffs from China could impact the GM.

4.     Without the decrease in CEO LTI ($15m) the ebit growth would have been very low.

5.     Lov will look to other markets eg Japan/Korea + others in time.

6.     Landlords are becoming more aware of LOV as brand awareness increases, making it easier to negotiate with large landlords. US landlords the main issue and continue to be the largest bottleneck to growth.

Disc held, last sales low $30,s. last buys circa. $19.

And thats my top 10 done for this results season ????