Stockwatch: this FTSE 100 share’s 4-year bull run can continue
Analyst Edmond Jackson looks at the performance of a previous tip and assesses latest results and market reaction. The outcome is favourable.
19th July 2024 11:22
by Edmond Jackson from interactive investor
It is a rather volatile ride but yesterday FTSE 100-listed sports and clothing retailer Frasers Group (LSE:FRAS) leapt 9% to over 900p in reaction to its annual results, as if the market had been missing a trick.
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This stock has traded in a bull market since its spring 2020 drop below 200p in response to Covid. From 2022, the trend lost upwards momentum and became more volatile, but is still up overall. Price has eased to 880p with the market this morning, but does the manner of reception to its results imply the trend is intact, or is it just investors looking for catch-up plays following wider optimism manifesting since April?
Source: TradingView. Past performance is not a guide to future performance.
Fair value adjustments aid 13% growth claim
Frasers highlights fair value adjustmentsat the pre-tax profit level, against which the trailing price/earnings (PE) multiple is a modest 9.2x if you follow the methodology through to adjusted earnings per share of 95.8p (versus 86.8p reported).
You can spot the adjustments early in the results for the year ended to 28 April; in particular, a £41 million negative entry last year for fair value losses/gains on disposal of equity derivatives becoming a £69 million gain – a £110 million swing when adjusted pre-tax profit has risen by £64 million.
These “equity derivatives” relate to share dealing by founder and 73% shareholder, Mike Ashley, which has led to stakes in various problem businesses. It would be interesting to figure what value has been created or destroyed over the years with this maverick activity – which has likely contributed to a rather volatile underlying financial trend.
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I would also not deduct £23 million share-based payments when deriving normalised profit – they are a genuine cost – although I agree, this helps “see through” to underlying business performance.
No dividend also helps explain modest rating
Instead of dividends there were £126 million of share buybacks in the last financial year, amid a 26% hike in net cash inflow from operations to £682 million. Working capital movements do however explain this jump, and the approach to “returns” may be explained by Ashley effectively controlling the board and not wanting to raise his income tax bill.
His son-in-law CEO has a vigorous narrative and, in fairness, while “luxury” brands elsewhere are under the spending cosh from consumers, Frasers’ “premium lifestyle” side saw only a 1% revenue slip in the last financial year – as if relative out-performance.
Partly due to the historical legacy of Ashley building up the group, and the CEO’s property background in a relatively brief career (he was appointed to run this business in 2022 aged 32), its balance sheet has a strong aspect of fixed assets – with intangibles just 2% of £1,873 million fixed assets or 415p a share.
Net financial debt of £448 million is relatively modest (additionally there are £646 million leases) giving rise to only a £48 million net interest charge against £521 million reported operating profit. So the balance sheet is strong overall, and its financial risk quite low.
Frasers Group - financial summary
year-end 28 April
| 2016 | 2017 | 2018 | 2019 | 2020 | 2021 | 2022 | 2023 | 2024 | |
| Turnover (£ million) | 2,904 | 3,245 | 3,360 | 3,702 | 3,957 | 3,507 | 4,691 | 5,557 | 5,538 |
| Operating margin (%) | 7.7 | 4.6 | 6.0 | 4.3 | 4.9 | -2.1 | 6.4 | 9.9 | 9.9 |
| Operating profit (£m) | 223 | 148 | 201 | 161 | 192 | -73.3 | 301 | 535 | 521 |
| Net profit (£m) | 277 | 230 | 20.1 | 112 | 93.8 | -83.0 | 250 | 488 | 387 |
| EPS - reported (p) | 45.5 | 38.3 | 3.8 | 21.5 | 18.5 | -18.2 | 47.5 | 100 | 90 |
| EPS - normalised (p) | 51.9 | 31.4 | 2.4 | 25.6 | 27.9 | 18.2 | 78.4 | 101 | 88 |
| Operating cashflow/share (p) | 10.8 | 42.9 | 61.4 | 52.5 | 74.3 | 103 | 108 | 118 | 156 |
| Capital expenditure/share (p) | 33.9 | 68.9 | 39.2 | 30.6 | 63.8 | 43.9 | 68.5 | 102 | 60.9 |
| Free cashflow/share (p) | -23.1 | -26.0 | 22.2 | 21.9 | 10.5 | 59.1 | 39.5 | 15.7 | 94.6 |
| Return on total capital (%) | 12.3 | 8.5 | 9.2 | 6.3 | 6.4 | -2.6 | 9.7 | 16.7 | 15.6 |
| Cash (£m) | 234 | 205 | 360 | 448 | 534 | 457 | 337 | 333 | 359 |
| Net debt (£m) | 99.7 | 182 | 397 | 379 | 990 | 972 | 1,112 | 1,097 | 1,094 |
| Net assets (£m) | 1,386 | 1,223 | 1,194 | 1,247 | 1,267 | 1,193 | 1,287 | 1,668 | 1,873 |
| Net assets per share (p) | 232 | 218 | 222 | 232 | 224 | 230 | 263 | 346 | 415 |
Source: historic company REFS and company accounts.
Mixed aspects to group revenue profile
The CEO asserts: “Sports Direct continues to reinforce its position as an undisputed leader in sport. The sport industry is not slowing down; high consumer demand, coupled with our unique proposition continues to drive profitable growth.”
But within annual group revenue 1% softer at £5,538 million, UK sports retail revenue is down over 3% to £2,861 million, significantly offset by international revenue up similarly to £1,289 million.
I do not pour cold water on the CEO’s remark; spending on sports kit was a key reason I set out a “buy” case for Frasers at 700p in June 2022. When interest rates come down and if this Labour government delivers on what it says – about working people becoming better off through economic growth – then on a two-year view Frasers’ UK sports revenue should improve.
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But I prefer to see exactly what Frasers means by “a strong trading performance from the core Sports Direct business...which offset the majority of the planned sales declines in Game UK and Studio Retail, also effect of House of Fraser store closures.” (These were all problem businesses introduced by Ashley’s share dealing which led to takeovers.)
The “segmental analysis” within Frasers’ accounts lumps together Sports Direct’s numbers with these other businesses lagging, hence a perception of the crown jewels is blurred.
Meanwhile, the premium lifestyle side edged up over 1% to £1,204 million, property income doubled to near £73 million and financial services - where management sees great potential - rose 11% to £111 million.
23% fall in reported net profit looks in line with consensus
Due to myriad adjustments within Frasers’ presentation of profit, and scope for analysts to take individual views, it is quite a miracle that profit matches the consensus view – £387 million was the same as published consensus I saw early yesterday. Yet this could have been on an adjusted basis.
Adding back depreciation and impairments, but deducting share-based payments and foreign exchange gains (unlike the company’s presentation) I derive an adjusted group operating profit of £798 million – down 7% on £858 million to April 2023.
This still implies a strong 14.4% operating margin despite a slip from 15.4%, which should be respected. It is partly why, at near 900p, the stock’s risk/reward profile is overall attractive and rates at least a “hold”.
Management looks to have its act together for a consumer environment that ought to improve in years ahead. Moreover, we are in a “summer of sport” with the Olympics next after European football, which ought to be a trigger for social sports activity.
Brand partnering is competitive advantage
Frasers says brand partnering “gives us better access to product across the group”, which I would affirm when I took up tennis again a couple of years ago (not knowing for how long enthusiasm might last).
A good-quality Slazenger polo shirt, tennis shorts, three pairs of socks and a couple of sweat bands cost me very little. It shows how Frasers is adept at market positioning with killer prices.
Management contends its “elevation strategy” – focusing on store experience and digital product, with three core pillars of sports, premium and luxury – is a differentiator. New brands sold such as The North Face, On and Columbia, have contributed to a strong trading performance.
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Meanwhile, near-completion of a warehouse automation project has aided an 8% reduction in stock-holding year-on-year; and a new group-wide digital platform has streamlined and enhanced retail operations.
They are bullish about “Frasers Plus”, a new revenue stream targeted with over £1 billion annual sales and helped by a strategic partnership with e-commerce group THG plc. The CEO asserts “a break-out year for building Frasers’ future growth, benefits of recent investment to be seen from this financial year...significant synergies from both our automation programme and the integration of acquisitions.”
Overcoming perception of maverick development
If Frasers can steadily shake off this problem with a maverick owner, its bull trend looks intact. Some investors will say you never quite know what Mike Ashley could deal next, and how independent is his son-in-law CEO?
It is therefore a mixed rationale on this stock, but I am happy to take a “buy” stance again given the consumer environment looks set to steadily improve and management is adept with marketing and cost control.
Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.
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