Next – read the narrative, not the numbers

Written By:

Stephen Springham, Knight Frank

22 Mar 2019

8 minutes to read

Categories: Retail UK

Retail Sales

• Again, the official ONS numbers were much stronger than the earlier released (and more widely covered) ones from the BRC. Year-on-year retail sales values (exc fuel) were up 4.1% in February, with volumes (i.e. net of inflation) up 3.8%.
• Predictably, the media sought out the most negative figure in the whole release, a -1.5% decline in month-on-month food sales – which is ironic, as this completely contradicts their other pet subject of the moment, namely the myth that most consumers are stockpiling ahead in the event of a “no deal” Brexit.
• Month-on-month growth figures remain largely meaningless, yet get undue focus. None of the media picked up the fact that month-on-month online sales declined (yes, declined) by -3.3%. Selective reporting bordering on utter hypocrisy.

Retailer Trading Performance

• Mixed results from the fashion operators. Next’s FY figures were fairly robust (see below), but Ted Baker reported a 26.1% decline in full year pre-tax profit to £50.9m, citing competitive discounting, consumer uncertainty and unseasonable weather in its global markets as contributing factors, rather than anything corporate surrounding the leave of absence of founder and chief executive Ray Kelvin. Group revenue rose by 4.4% to £617.4m while retail sales climbed by 4.2% to £461m. At the other end of the value spectrum, Bonmarché issued its third profit warning in just six months, announcing that it will suffer a loss this year following tough trading in March.
• Further disappointing figures from B&Q owner Kingfisher. FY pre-tax profits slumped by 52.8% to £322m, while sales for the year to 31 Jan inched up 0.3% (+1.6% in constant currency). In the UK, sales rose 1.1% but were down 0.8% on a like-for-like basis. B&Q’s total sales were down 2.8% to £3.39bn and like-for-likes dropped 3%. The business also announced the departure of CEO Véronique Laury, with her five-year Kingfisher One transformation programme bearing little fruit to date, despite being three years into implementation.
• Strong results from toy retailer The Entertainer. The business reported a 31% increase in year-on-year profit and a 21.7% jump in sales for the year ended 28 Jan 2019. Over the year, it added 16 more stores to its UK portfolio, taking its total number of stores to 163. It also expanded its international footprint with the acquisition of Poly, a chain of 55 toy shops in Spain. It has since acquired the Early Learning Centre, which operates within 80 Mothercare stores in the UK, as well as 400 stores internationally via franchise partners.

CVAs / administrations / M&A

• Stationery chain Office Outlet (formerly Staples) has fallen into administration, putting 1,200 jobs at risk. The business launched a CVA in August 2018, closing a handful of unwanted stores and secured three years of free rent on 20 others. The business, which is part-owned by Hilco, has 90 UK stores and will continue to trade while it searches for a buyer.
• Premium jewellery retailer Links of London is reportedly on the verge of collapsing, putting 500 jobs at risk. The business is owned by Greek global jewellery, watch and accessory brand Follie Follie and reported a pre-tax loss of £20.6 million for the year ended Dec 2017. It has ca. 350 stores.
• JD Sports has agreed to buy the remaining shares of struggling sports footwear specialist Footasylum, in a deal worth £90.1m. Footasylum was initially created by JD Sports co-founder David Makin in 2005 and floated on the AIM in November 2017. Trading performance has since faltered and the business issued two profit warnings over the last year, the first in Autumn 2018 and the second in January 2019.
• Meanwhile, Mike Ashley is reportedly buying everything and anything – Arcadia (refuted, “not even for £1”), multi-channel gifting business Findel (initially rebuffed by the board), footwear/fashion business LK Bennett (more logical/likely) and, of course, the main ‘prize’, Debenhams. The Debenhams saga rolls on with seemingly less certainty and clarity than Brexit.
  
  

Stephen Springham, Head of Retail Research:

I make no secret of my admiration for Next. It is unquestionably one of the best retailers in this country – it is one of the few whose brand integrity remains intact, as well as being one of the finest exponents of multi-channel retailing anywhere in the world. And in Simon Wolfson, they have one of the most visionary and honest CEOs there is.

Any investor release from Next is worth reading and this week’s full-year results 71-pager is a belter for anyone with any interest in the future of UK Retail. Of most interest is the ’15 Year Stress Test’ and the accompanying narrative on the mechanics of multi-channel retailing. The over-arching message is that stores and online benefit from a symbiotic relationship and that it is fundamentally wrong to think in binary terms.

But paradoxically, Next persists in reporting its figures in absolute binary terms. In the latest financial year, Online sales grew by 14.7%, while Retail sales declined by 7.9%. Very binary reporting of something that the business is going to pains to stress is non-binary. But, of course, this plays very much into the hands of the media and their mission to undermine the high street at every available opportunity. It is frustrating that the real substance of this latest release is subordinate to a couple of very misleading headline numbers.

I can but quote from the release to underline the symbiotic relationship of stores and online: “Our stores remain a valuable financial asset and an increasingly important part of our Online platform […] it costs us less to deliver Online orders to stores than to a customer’s home […] as a result, around half of our Online orders are delivered to our stores […] stores are even more important in facilitating Online returns. Over 80% of all Online returns come back through our stores” (which begs the question, how are they accounted for in the figures?). Most priceless quote of all: “We are often asked ‘how much less space will you need in the future?’ It is the wrong question.” Expect to see it all my presentations for the foreseeable future.

So, why does Next still strip out online and store-based sales separately? Saying one thing and then reporting another? My feeling is that there are two key motives – simultaneously providing a carrot to the City (still a sucker to a good online growth story) and a stick to landlords (store sales are going backwards, we want rent reductions).

This latter point is made fairly explicitly in the release itself: “We do not have too much space, we have to much rent, rates and service charge. The amount of Retail space we trade in the future will depend on whether the cost of retail space adequately reflects the reality of retail trading conditions. Our guess is that there will be shops in 15 years’ time, but they will be fewer in number, possibly smaller and MUCH less expensive.”

What is Landlords’ come back on this? Playing devil’s advocate, are they just bearing the brunt for Next’s corporate decisions? Contrary to popular belief, online is as cost-heavy as store-based retailing: “[…] every additional order Online has increased variable costs, such as warehouse picking and delivery costs. Last year, every pound of Next business that transferred from Retail to Online cost an additional 6p”. Why should landlords be saddled with the fitting the bill of a retailer opting to embrace a higher cost channel?

The ’15 Year Stress Test’ makes for genuinely fascinating reading. The company goes to great pains to stress that it is not an official forecast or plan, but is refreshingly transparent with its assumptions and thought processes. By way of very cursory summary, the Test assumes that:

- the Retail side of the business will see sales decline at -10% per annum

- stores where profitability is less than 4% will close

- transfer of trade from a closed store to another store will be 0-25% (max)

- there will be no transfer of trade from a closed store to Online

- Online click & collect will largely be maintained (acknowledging that in reality, some sales will be lost)

- Rent reductions will only be actioned at lease expiry (or at break clauses)

- Market rents are currently 25% lower than passing rent (on all leases more than 3 years old)

- Market rents to decline at 5% p.a. from 2023

- Closure of all ‘loss-making’ stores would leave the estate at ca. 150 stores by 2033

- A further 120 stores open to service / support online would deliver overall cash generation of around £12bn.

The business stresses the fact that many of the assumptions are “likely to be incorrect”. Indeed, it is possible to challenge any one of these intricate moving parts. But to do so really misses the point – it is much more about the bigger picture and the wider thought processes. Next is setting out a roadmap, operational and financial, for multi-channel retailing. In a world where endless column inches are given over to buzzwords, lazy and ill-informed predictions about the future of retail, Next’s ’15 Year Stress Test’ stands out as one of the very few tangibles.

As a final aside, Brexit was not mentioned once in the actual release. Any comment presumably only came up in the Q&A. Over to you, Lord Wolfson: “We can see no evidence that [Brexit] uncertainty is affecting consumer behaviour in our sector […] Our feeling is that there is a level of fatigue around the subject that leaves consumers numb to the daily swings in the political debate.” Again, priceless. 

The UK retail market has far bigger fish to fry than Brexit.