November 14, 2015 – SSI Tanks. Permanent Problem on Inventory Level Build Up? Will we see a 50% downside after a 70% decline?

$SSI 3Q15 Earnings disappoint – a hiccup or a secular bear market to department stores and retailers?  Are we facing a decelerating margin?  Everything’s bad news.  Is nobody shopping anymore? It is undeniable that there are valid bearish concerns for this specialty retailer.

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9M15 seems to be showing us a new norm.  Sales fortunately went up at 17% YoY justifying their expansion of 114 brands.  However, gross margin fell from 56.3% to 53.1% thereby affecting the net margin to fall from 6.7% to 5.9%.  The company needs to manage their operating expenses more efficiently.

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A look at their sales data shows Fast Fashion being the largest contributor of the net sales growth.  Fast fashion refers to the likes of Zara, Stradivarius et al showed a huge increase generating a P4.3B sales versus a P3.6B sales a year ago.   It is a good thing to see that despite the ailing woes of a possible lessening of consumer discretionary items that their Luxury sales segment still rose albeit very little from P2.2B to P2.3B.  The sales number was overall a good picture as every segment rose.  Notable rise comes from Shoes as well P1.7B sales versus P1.4B.

We see a P130Mil loss in the “other income.”  The increase in other charges is attributable primarily to increases in interest expense and the Company’s share in net losses of joint ventures. Interest expense increased to P224 million from P194 million during the year ago period, while the Company’s share in the net losses of the FamilyMart, Wellworth and Landmark joint ventures increased to P164 million compared to P117 million during the same period last year.

While these joint ventures are increasingly net positive to SSI in the long run, investors should wait 3 years before these “other income” charges lessen as economies of scale particularly to the Family Mart convenience stores will need 300-400 stores.  The company currently has 113 convenience stores.

Another key factor that concerns many investors is the ballooning net debt position of $SSI.  Shown above is an increase of P1.6B in its total debt position.  It now has P8.9B debt!  This will further be detrimental to the company if inventory build up keeps worsening forcing the company to aggressively make more discounts.

Merchandise inventory as of September 30, 2015 was at P9.9 billion as compared to P8.0 billion as of December 31, 2014. Increases in inventory are driven by purchases for existing stores and new store openings.

SSI’s inventory rose by 25% year over year as sales only went up 17%, which is often a lethal combination to a retailer’s future profit margins as unsold items will have to be discounted. Weak third quarter sales, and a reduction in full year earnings guidance in part stemming from the company taking unplanned markdowns has forced $SSI shareholders to lessen their bullishness in the company’s margins.

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I think the key lesson to make a bullish case on $SSI will not simply be valuations or P/E ratios for that matter as an oversold stock can continue to be an oversold stock.  What would matter will be a better fundamental earnings report!!!

1.) Strong 4Q15 Sales – we need to see Fast fashion continue to deliver strong sales growth YoY.

2.) Stem the inventory buildup.  If the company can show a faster inventory turnover (meaning faster ability to sell their goods), then the stock can fundamentally go back up and rebound sustainably.

3.) Lower operating expenses and lower the Joint venture interests.  As much as I like Family Mart, I don’t think it is correct to continue expanding and bleeding shareholders on several joint ventures.  Maybe it will be better to pace the business ventures since a P1.1Bil investment in several JVs will not be profitable in the near term.

4.) Lower interest expenses – Php8.9Bil debt is not to laugh at.

Nov 13, 2015 – Stock Price on 3Q15 Earnings = 3.91 (ALL TIME LOWS)

-Faceless Trader

Hopes that the Rustan’s group who’s been able to manage many successful specialty brands over the years can address the concerns and mitigate the worsening margins over time.

References:

Read the 9M15 Quarterly Report found in edge.pse.com.ph

 

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