Acquisition activity points to rebound in apparel sector

Lovisa could generally be viewed as an apparel stock, fitting neatly into the fashion accessory segment.

Mergers and acquisitions often mark the turning point in a downward trend. If this is the case in the retail sector there could be better times ahead for a number of companies that have been marked down significantly in recent years.

Furthermore, it may indicate some recent ASX listings have timed their run to perfection, standing to benefit from more buoyant industry conditions. Notable new entrants over the past 12 months or so include Beacon Lighting Group (residential and commercial lighting and fans), Burson Group (auto parts and accessories), PAS Group (clothing) and Lovisa Holdings (fashion jewellery).

With the exception of PAS Group, these companies have performed exceptionally well and their share prices are trading substantially above their IPO prices. However, PAS could be worth watching as a turnaround story.

Increased access to capital has provided newcomers Burson and Lovisa with the funding to make large acquisitions in recent months. Footwear group RCG Corporation also made a company-transforming acquisition with the purchase of Accent Group expected to generate annualised earnings before interest, tax, depreciation and amortisation of more than $30 million.

From a performance perspective some long-awaited good news emerged last week in relation to the progress of Pacific Brands’ restructuring strategy. As a backdrop, the recent divestments of the underperforming Brand Collective and Workwear businesses for $226 million, slightly ahead of previous expectations of $219 million, generated a profit on sale of $7.8 million.

In the six months to December 31, the group’s core Bonds and Sheridan businesses performed well with sales up by 4.1 per cent and 13.7 per cent respectively. This trend appears to have continued with Pacific Brands releasing an earnings upgrade at the start of July which had been driven by continued strong performances from Bonds and Sheridan, disciplined margin management and cost controls.

The company is in a much improved financial position, with net debt expected to be cash-positive at about $1 million at June 30. The upgrade in earnings before interest and tax from a mid-range of about $60 million to a range between $63 million and $65 million suggests management has been successful in executing its restructuring plan.

Despite a substantial share price spike following the upgrade, Pacific Brands is trading on a price-earnings multiple of about 10.5 compared with the industry average of about 15. Analysts at Deutsche Bank responded to the profit upgrade by increasing its profit forecasts and margins, as well as upgrading the 12-month price target from 52¢ to 54¢.

Even though its focus is on jewellery, Lovisa could generally be viewed as an apparel stock, fitting neatly into the fashion accessory segment. The March acquisition of 21 fashion accessory stores in South Africa, the majority of which will be renamed under the Lovisa brand, is an important development for the group as it will now have more than 30 outlets in that region.

Management highlighted that there is minimal crossover from the current store portfolio, indicating there will be little need to close stores.

While Lovisa’s main area of representation is Australia with about 150 stores, it is also represented in New Zealand, Singapore and Malaysia. All regions performed well in the first half, with sales up 33 per cent on the previous corresponding period and the net profit of $12.3 million slightly ahead of prospectus forecasts.

Management highlighted that 75 per cent of the full-year fiscal 2015 forecast had been generated in the six months to December 31, leaving the company well positioned to deliver a better than expected performance when its results are announced in August.

With this backdrop, it isn’t surprising to see Lovisa trading well ahead of its IPO price of $2.00. However, a recent pullback arguably due to broader negative market conditions could present a buying opportunity, with the company trading about 20 per cent shy of Morgans CIMB’s 12-month price target of $3.91.

RCG’s acquisition of Accent Group was arguably the most compelling transaction in the apparel sector in that it not only was a vote of confidence in terms of raising capital in a tight market, but the prospective financial impact was considerable.

A fully underwritten placement of $25 million at 70¢ a share represented only a nominal discount of 3.4 per cent to the group’s volume-weighted average price during the five days prior to execution.

RCG has since traded as high as $1.30 and it continues to track in that range. Footwear tends to be a resilient industry, supported to some extent by non-discretionary spending, particularly in children’s footwear.

While the group’s 2015-16 price-earnings multiple of about 20 relative to consensus forecasts represents a premium to the sector average, RCG’s better than peer average growth profile is justification.


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