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Questor: Dunelm faces too many unpredictable elements to justify its valuation. Avoid
Questor share tip: Brexit, the vagaries of consumer tastes, currency movements and the British weather: all good reasons not to pay a fat multiple
Full-year results earlier this month from homewares and furniture specialist Dunelm provided, on the face of it, little support for our bearish case on the stock outlined here six months ago.
Like-for-like sales in the stores rose by 7.7pc, operating profits rose strongly, cash flow was good and management even sanctioned the payment of a 32p-a-share special dividend to supplement an increase in the regular distribution to 28p.
Credit must therefore be given where credit is due but, as we pointed out in the spring, our concerns do not centre on strategy or management acumen. They lie primarily with the stock’s lofty valuation after the 50pc-plus gain in the share price from last December’s lows, because that means expectations have gone up and the margin for error has gone down.
Dunelm’s post-results share price slide suggests our thesis may be on the mark and investors should continue to avoid the stock, at least for now.
The company’s outlook statement did seem more cautious in tone, thanks primarily to Brexit, and it remains exposed to such unpredictable elements as consumer preferences, currency movements and the British weather.
All are good reasons for not paying a fat multiple, despite Dunelm’s strong competitive position, and on 16.8 times forecast earnings it still trades at a big premium to the wider London market.
In addition, the company plans to invest further in its online homewares offering. Strategically this feels like the right thing to do, as it could drive long-term market share gains and therefore revenue and profit growth, while generating the sort of data that helps Dunelm refine and tailor its customer experience.
However, in the near term it brings extra costs and the company’s own numbers suggest that delivery orders make lower profit margins.
Online is likely to be the major driver of top-line growth in future, so this could cap margins and to some degree limit momentum in earnings forecasts, at least in the short term.
Overall there is much to like here, but the valuation remains problematic.
Questor says: avoid
Ticker: DNLM
Share price at close: 868p
Update: Cobham
Thanks to an intervention by the Competition & Markets Authority (CMA), we are still a little bit in limbo with Cobham, even after the approval given to Advent International’s 165p-a-share bid at last week’s shareholder meeting.
The regulator is looking not at the price paid but at national security implications. This column would also surmise that the CMA is interested in Advent’s plans for jobs and investment at Cobham’s nine British sites after the manner in which Kraft failed to stick to certain promises after it bought Cadbury in 2009.
Investors will now have to wait for the CMA’s report, due at the end of next month. However, the shares are still trading near the offer price, to imply the deal will go through.
Questor says: hold
Ticker: COB
Share price at close: 159.8p
Update: SSE
Utilities may not float everyone’s boat but we have made an 8.3pc capital gain from SSE since our tip last year, with a 29.3p interim dividend on top, and the recent deal to sell its household energy supply business for £400m in cash (with £100m in debt attached) means there could be more to come.
SSE will now focus on its energy networks and renewables operations. Near-term trading is likely to remain volatile, thanks to the timing of profits in the former and the effect of hedging at the latter, which caps the price received for energy generated.
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But its chief executive, Alistair Phillips-Davies, has reaffirmed the plan to pay an 80p-per-share total dividend for the year to March 2020 and then increase the payment in line with the retail prices index for the three years after that. Political concerns remain but SSE looks like a solid income option for yield seekers.
Questor says: hold
Ticker: SSE
Share price at close: £12.21½
Russ Mould is investment director at AJ Bell, the stockbroker
Read the latest Questor column on telegraph.co.uk every Sunday, Tuesday, Wednesday, Thursday and Friday from 6am.