Watches of Switzerland is asking investors to take more on faith. The retailer has laid out the next leg of its expansion strategy, just when growth in the luxury goods market has become harder.
The group is hoping to double its sales to £3 billion by 2028 and beef up the adjusted operating margin by between 0.5 and 1.5 percentage points from the 10.7 per cent in the last financial year.
The timing is apt. It has come less than three months after Rolex announced its acquisition of Bucherer, the Swiss luxury watch group. The deal was a response to a succession issue, Watches of Switzerland told investors, part of a plan by Jörg Bucherer, the now deceased former chairman, to establish a legacy foundation with the proceeds of the Rolex deal.
It is not part of a move into retail by Rolex and the manufacturer will also not be operationally involved in Bucherer, the company has asserted. Yet investors are right not to take it for granted that this stance will be maintained over the longer term. The fear is that Rolex will give preferential distribution terms to the Watches of Switzerland rival.
Bucherer’s largest market is Switzerland, while the UK is where the London-listed group makes most of its money. Both companies are pretty even in the growing US market but the industry on the other side of the Atlantic is far less mature. Still, Rolexes are in short supply, which would make it all the more painful if the watchmaker were to be tempted to prioritise the retailer it now owns.
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Rolex products account for more than half of Watches of Switzerland’s revenue and the group is the biggest distributor of the brand. It will soon become even more reliant on the Swiss watch. It plans to push further into the pre-owned market, aiming to grow second-hand watches to 15 per cent of the Rolexes it sells globally by 2028. The plan is for Rolex Certified Pre-Owned to become Watches’ second-largest brand.
Outside of Rolex, it plans to sell more pre-owned watches through its Analog:Shift business, the American vintage watch company it bought in 2020, by launching in the UK.
Selling pre-owned has its advantages. Customers are sometimes willing to pay a premium for not having to sit on waiting lists that can be years long. It also helps partially mitigate the problems that come with a lack of supply of new products. Sales of pre-owned products were up 88 per cent in the second quarter, though second-hand prices have been returning to earth after a pandemic boom.
Patience is lacking. The shares trade at less than 11 times forward earnings, almost a third of the peak at the end of 2021. The valuation has compressed with good reason.
Sales growth has slowed across the board. The group’s consumers might be less impacted by spending pressures than many, but they are not immune. In the second quarter, revenue in the UK and Europe was flat year over year. The US fared better, posting 11 per cent growth, but that is a long way short of the norm before this year. Some of the slowdown will be the result of the much larger scale the group has built since it entered the US in 2017. Since then revenue has grown to £653 million, or 42 per cent of group sales, through a combination of acquisitions and opening new shops.
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Management expects growth rates to improve over the third and fourth quarters as annual comparatives get easier, translating to between 8 per cent and 11 per cent overall this year. It is then hoping to reaccelerate sales, translating to a compound annual growth rate at 14 per cent out to 2028, led by the US.
In the past five years, it has pushed the top line forward at a 20 per cent annual rate. But that took in the pandemic, when savings levels were higher. The group beat its last set of growth targets, set out in 2021. That won’t come so easy this time around.
Advice Hold
Why The shares are cheap, but challenges to sales might constrain momentum
3i Group
An investment in 3i Group is a bet on discount retailer Action. It is one that investors are still willing to take, helping 3i buck the dramatic downturn faced by the rest of the private equity sector.
The shares remain one of the few within the investment trust universe to continue to trade at a premium to net asset value, which stands at 7 per cent. A lack of diversity within the fund remains the clearest stumbling block. But the decision by Simon Borrows, chief executive, to remain highly exposed to the Dutch discount retailer has not failed shareholders — yet.
The trust’s adjusted net asset value rose 8 per cent during the period and Action was a major driver, marked up by another 15 per cent. The performance of the retailer remains robust, which should give confidence in the validity of Action’s valuation.
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Like-for-like sales growth came in at 19 per cent over the first nine months of the year, driven primarily by higher customer footfall, while the retailer has continued to set up new shops across Europe. Portugal and Switzerland are the latest targets for expansion. 3i has increased its stake to 54.8 per cent, from 52.9 per cent, during the first half of its financial year.
Borrows, who is also chairman of Action, has been willing to increase his bet. In October, Action issued $1.5 billion in new debt, maturing in 2030, 70 per cent of which is hedged at an all-in cost of 6.3 per cent. That has taken the retail chain’s leverage ratio to 2.1, from 1.3 at the end of September. The risk associated with any deterioration in the business has increased, but then so has the potential reward.
Not all investments have proved as fortuitous. Luqom, an online lighting retailer, was written down by £46 million to £225 million, as was its investment in Tato, a chemical company, by £81 million to £330 million. Yet unrealised losses of £219 million were offset by gains of £353 million, even excluding Action.
If 3i Group can continue to ratchet up the returns at the same pace, its premium does not seem like a big ask.
Advice Buy
Why The return generated by the trust justifies the premium
