UK Edition
Questor's enthusiasm for traditional retailers is decidedly limited. So many seem woefully unequal to the twin challenges of the internet and the pandemic. Next is one exception covered here recently; another is WH Smith.
Its key decision to concentrate on airports, hospitals and railway stations as opposed to high streets was inspired. But while it’s vital to get strategy right, detail and execution matter too.
Examples abound of its strengths in this respect. One is that it is a keen believer in the use of data to squeeze the most out of its space via adjustments to shelf heights, or the positioning of different products around its shops, to encourage customers to circulate and buy more.
Another is its realisation that airport retail works differently in America. Airports there do not resemble the modern shopping centres we are used to here; some are much more dated affairs. But American travellers have the same need for snacks, drinks, magazines and books as anyone.
WH Smith has moved into this vast market by buying two local retailers. Airports in America are often owned by local authorities proud of their area and keen to promote its particular characteristics. Marshall Retail, one of the firms taken over by the British group, already offered landlords this sensitivity to local nuances; WH Smith adds its modern data-driven practices to get travellers to shop.
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Airports’ retail leases tend to tie rent to shops’ turnover, so landlords have a strong incentive to offer leases to the retailers that seem best placed to succeed. One benefit of WH Smith’s presence in America is that aviation there is dominated by domestic travel, which is expected to recover more quickly than international flight.
Back in Britain, nothing illustrates the firm’s will to succeed better than what has happened recently at Gatwick airport. It has capitalised on the closure of a Boots, a brand synonymous with health and beauty, by opening a section dedicated to these products in its own shop.
Customers’ average spending has increased from about £7 to nearer £10 as a result. It invested in similar improvements at Heathrow even as the pandemic was in full swing.
Most of us are much less sensitive to price at airports than on the high street because the scope for shopping around is limited, we may be short of time and if we’ve forgotten something such as a plug adaptor we just have to have it. WH Smith now makes 70pc of its profits from its travel arm and this division’s pre-pandemic margins of 17pc should return when the virus crisis ends.
Its management of the pandemic has been exemplary: costs have been cut and in some months its cash has been depleted by just £5m-£10m – tiny sums by comparison with its available resources of £400m. The group should be able to break even on a cash basis with just 50pc of its normal customer traffic, far less than other retailers.
It has closed a few of its high street shops, but even here it is better placed than most thanks to its connection with the Post Office.
It invests next to nothing in the high street chain, which instead is a source of cash for building and improving the travel arm. The latter does not require too much in the way of capital, however, and this, in combination with those margins, allows the business to make healthy returns on capital in the mid-20s per cent in normal times. Cash conversion is typically between 80pc and 90pc.
Questor puts much of this success down to the firm’s strong culture, an attribute whose importance we discussed here two weeks ago. It has had a succession of strong chief executives who have been promoted from within after they have got to know the business thoroughly.
“They have come up through the business so they know the strategy and are great executors of that strategy once they get the top job,” said Georgina Cooper, who holds a stake in her Dunedin Income Growth investment trust. “Not all management teams can do that. WH Smith is not your average legacy retailer.”
The shares trade at about 15 times the earnings that the firm is expected to make once things return to normal in two or three years’ time. This looks good value for a business that should come out of this crisis in better shape and is able to grow profits strongly.
Questor says: buy
Ticker: SMWH
Share price at close: £13.53
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