Summary
- Primark had a strong 1H23 with revenue growth of 16%, driven by a price increase and new store openings.
- Management has raised FY23 margin guidance to over 8%.
- Inflationary pressures may impact margin in the short term, but cost-saving measures and the maturation of recently opened stores should help bolster margin expansion in the long term.
Overview
To put it simply, Associated British Foods plc ( ASBFY ) is a multinational corporation that operates in the food and retail sectors and holds dominant market shares in the majority of the industries and geographies in which it participates. Primark, its value retail business, has a more inspiring store environment and, in my opinion, offers a winning combination of competitively low pricing and fashionability. I am cognizant, however, of the fact that Primark caters primarily to customers with lower disposable incomes. If low-income households reduced their spending, other customer segments would have to increase theirs significantly to compensate (as low-income households represents a larger mix). This, I think, emphasizes the significance of attracting new customers in a weak environment for Primark. However, I think Primark has some resilience in a downcycle because of the products it sells, as customers in higher price ranges will shift down to purchase at Primark.
Anyway, I think this is a good quarter for ASBFY overall, despite like-for-like sales still only slightly below their pre-covid levels. Primark's guidance for FY23 margins has been increased to over 8% thanks to better external factors and higher sales densities. Although this outcome is somewhat anticipated by bulls, I anticipate a shift higher in the consensus to reflect this. Overall, I anticipate a positive trend in the share price, as such I am recommending to buy the stock.
1H23 earnings
Considering the low base from the previous year because of Omicron, I do not think the 1H23 sales results from Primark came as much of a surprise. First-half revenue growth for Primark was 16%, following a 15% increase in 1Q23, with some of that increase attributable to a price increase of around 10%. The regional performance is stable compared to 1Q23. Most notably, management expects 2H23 like-for-like growth will be lower than 1H23, albeit still better than prior projections. Furthermore, management raised FY23 margin guidance to over 8%.
New stores
Primark's H1 sales benefited from a price increase, the lapping of a relatively easy comparison period, and a new store's contribution. Management has emphasized so far how sales from new stores are beginning to meaningfully drive expansion. Management has also mentioned newly opened stores in the United States are doing very well, with particularly strong sales densities at Primark's newest location in Queens. The strategy to roll out a smaller store concept makes sense, in my opinion, as it appears to be well received by customers. With the optimal store-concept now in place to maximize sales in the US market, management is maintaining its goal of opening 60 Primark stores by 2026. Going deeper, interpret management's guidance of a 500 bps boost to sales from new stores in FY23 from a 3% to 4% increase in selling space to imply sustained high levels of new-store productivity.
Margin
A better-than-expected top line performance is the primary factor behind ASBFY's decision to increase their margin guidance for FY23 Primark from below 8% to above 8%. Notably, management has confirmed Primark will see increased profits in 2024. As ASBFY continues to optimize store size and product offerings to maximize margins, I think double-digit margins are possible. Margin would benefit from the maturation of recently opened stores as well. However, the effect of the speed up of store openings may prove to be a slight drag (depending on how fast they are opened together). For FY23, major sources of inflationary pressure will come from rising costs associated with foreign exchange, freight, energy, and wages. However, in 2024, FX should return to normal and the other mentioned headwinds should inflect to tailwinds, bolstering margin progression. Elsewhere, warehouse automation and self-checkout lanes are two examples of the cost-saving measures ASBFY are implementing to bolster margins. Overall, I have high hopes for the future of margin expansion.
Conclusion
ASBFY has had a strong 1H23, with Primark's revenue growth and increased margin guidance being particularly noteworthy. The company's strategy of opening new stores, including a smaller store concept, has been successful, with new stores driving expansion and contributing to increased sales densities. While inflationary pressures may impact margin in the short term, the implementation of cost-saving measures and the maturation of recently opened stores should help bolster margin expansion in the long term. Overall, I believe that ASBFY is well-positioned for future growth and recommend buying the stock.
For further details see:
Associated British Foods: Expect Margin To Continue Improving