Are retail stocks good value?

Photo of Peter Switzer, Switzer Super Report By Peter Switzer, Switzer Super Report

min read

Economy and consumers are giving the right signals.

The so-called expensive defensive stocks such as Australian Real Estate Investment Trusts (AREITs) and other interest rate-competing stocks are gradually being put on the outer and growth stocks are back in favour. So let’s look at the retail sector and start with the outlook for the economy and retailers within it.

The Australian economy grew at an annual rate of 3.3 per cent for the year to 30 June. Despite a few doomsday merchants out there, who always peddle bad news, the outlook for growth looks OK to pretty good.

The Reserve Bank has its upper range for growth at 4 per cent for 2017, which makes me think that a 3 per cent-plus number looks very possible. If that happens, unemployment falls. That has been our economic history — get over 3 per cent and jobs happen.

I argued at three conferences of food retailers over the past few weeks that I would prefer customers with jobs rather than those without them, so it makes me feel good about retail in 2017.

Here are other economic reasons to feel positive about retail:

  • The National Australia Bank (NAB) business confidence index rose from +5.6 points to +5.9 points and the long-term average is +5.8.
  • The NAB business conditions index rose from +6.8 points to +7.7 points in June and the long-term average is +4.8 points.
  • Consumer confidence: The Westpac/Melbourne Institute survey of consumer sentiment rose by 1.1 per cent in October to 102.4. The index is up 4.7 per cent on a year ago.
  • Job ads are up 3.7 per cent over the year, so bosses seem positive.
  • The CBA’s look at economy-wide sales is at a six-year high.
  • Capital city home prices rose by 1 per cent in September to be 7.1 per cent higher over the year. Prices rose in all capital cities except Perth and Darwin. But regional prices were only up 1.4 per cent in the year to August (latest data).
  • Total household wealth stood at a record $8,891.2 billion at the end of June, up $231.5 billion, or 2.7 per cent, over the quarter. In per capita terms, CommSec estimates wealth rose to a record $368,945 in the June quarter, up $8,895.
  • Retail rose by 0.4 per cent in August after rising by 0.1 per cent in July. Retail trade is up 2.8 per cent for year.

Right now, commodity prices are heading up, our super funds are doing well (up 3.1 per cent in the September quarter), home prices are still holding up, interest rates are at historic lows and not likely to rise until later in 2017, if at all. So I’m bullish on growth stocks and some retailers should do well.

On Wall Street, consumer discretionary stocks are finding support, especially in the food sector.

In Australia, the latest retail numbers showed that takeaway food sales rose by 1.5 per cent in August, to be up 11.4 per cent on a year ago – the strongest annual growth in six years. Also, spending in department stores rose by 3.5 per cent in August, and spending at hardware, building and garden suppliers was up 1.8 per cent.

Digging deeper, non-food retail spending is up 3 per cent on a year ago and this is just shy of the weakest annual growth in almost three years — 2.8 per cent in July 2016. Meanwhile, spending at electrical goods stores was down 1.7 per cent after falling by 1.8 per cent in July.

These stores have been pressured by elections, slow wages growth and confidence levels, which have increased since Malcolm Turnbull has been Prime Minister, which might surprise some bearish commentators.

I think 2017 will be good for retail as confidence levels and family finances look set to help lift sales levels.

Consensus view on retail stocks

(Editor's note: Do not read the following ideas as stock recommendations. Do further research of your own or talk to a financial adviser before acting on themes in this article).

The case for a better economy ahead and more confident consumers looks believable, so what are the brokers surveyed by FNArena saying about well-known retail stocks?

Company ASX code Price * Target price Sentiment (+1.0 the best, -1.0 lowest)
Harvey Norman HVN $5.15 $5.26 -1.0
JB Hi-Fi JBH $28.79 $29.64 0.1
Retail Food Group RFG $6.83 $6.33 -0.5
Premier Investments PMV $15.19 $15.07 -0.3
Kathmandu KMD $1.81 $1.98 0.4
Wesfarmers WES $45.30 $42.71 0.0
Woolworths WOW $24.36 $21.06 -0.6
Metcash MTS $2.12 $2.21 0.4
Oroton Group ORL $2.23 $2.40 0.0
RCG Corp RCG $1.61 $1.78 0.5
Super Retail SUL $10.26 $10.84 0.3
Nick Scali NCK $5.64 $6.09 1.0

Source: FNArena. Price at 18 October, 2016

What are the fund managers, brokers and market experts liking right now? I have also thrown in the reasons they have given for their selections.

George Boubouras, of Contango Asset Management, likes RCG, which owns brands such as The Athlete’s Foot and others. Here’s why:

  • A quality management team who are aligned and have consistently created value for shareholders over a long time.
  • They have established a leading position in the leisure footwear market, with a big store rollout of on-trend brands, particularly Sketchers, for which they earn both a wholesale and retail margin.
  • Growing earnings at 20 per cent per annum.
  • Conservative balance sheet and attractively priced on an FY18 Price Earnings (PE) of 15 times and 5 per cent yield.

Rudi Filapek-Vandyck, of FNArena, likes Bapcor (BAP) — the old Burson Group, a car parts business — because of a resilient, proven management team, plenty of growth and a recent share price weakness, without an identifiable reason. Bapcor also pays a growing dividend.

James Dunn, of the Switzer Super Report, likes Shaver Shop (SSG). It is priced at 14.5 times prospective FY17 earnings, with an unfranked dividend yield of 3.5 per cent. Those are relatively undemanding numbers and the analysts’ consensus target price is $1.45 against a current $1.14, so there is ample scope for this impressive retail newcomer to continue to consolidate its solid debut on the sharemarket.
Sharewealth Systems’ Gary Stone likes Breville (BRG). He says it has just broken above a $9.00 to $9.20 resistance zone and is heading higher to take on its record high of $10.10 more than two years ago, which should complete its three-year sideways range trading period. There is a relatively good dividend yield and a comfortable PE ratio for a growth stock.

Roger Montgomery, of Montgomery Investment Management, likes Vita Group (VTG), which owns Telstra stores and is growing some store sales rapidly. He notes it is also expanding the network of stores well beyond the 100 that the market was initially told would be the limit. “Maxine Horne is an amazing retailer, entrepreneur and motivational leader," Montgomery says.

That’s the story from the experts and with a pretty positive outlook for the economy and retail generally, I hope it helps you invest wisely.

Given the success of takeaway food, I would like to find the next Domino’s Pizza (DMP) business. Its share price is $67.96 and the broker consensus target is $74.03, so I will put my dough on Don Meij, the company’s CEO, and his impressive track record. It has had a 52-week high of $80.69, which is worth noting.

About the author

Peter Switzer is founder of the Switzer Group and a leading business and investment commentator.

To access the Switzer Super Report newsletter and website for self-directed investors, Click here for a trial and to hear more of Peter Switzer’s expert commentary and advice.
Follow: @peterswitzer

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