'Timing' May Be Key for Burberry as It Faces Stronger Headwinds

Concerns over the near term persist, with still a year to go before a CEO change.
By Mariko Iwasaki ,

As first-quarter trading results confirmed that the London-based Burberry (BURBY)   has not been exempt from the stronger headwinds facing the wider luxury industry, focus will remain on the company's delivery of its May promise of improving its retail business and cutting costs. "Timing" may be a key word in whether the firm can change fast enough to weather toughening times.

The changeover in top management, announced two days ago, has been generally well-received, with the view that it enables the incumbent chief executive officer Christopher Bailey to direct his energy on his role as chief creative officer. However, with still a year to go before the new CEO Marco Gobbetti joins the company, concern remains on how the company will manage in the near term. Gobbetti will join Burberry in 2017, when his current contract expires, but the specific timing hasn't been laid out.

Gobbetti, who is also the chairman of LVMH's (LVMUY) Celine, has a track record of developing brands including Givenchy, Moschino and Bottega Veneta. New chief finance officer Julie Brown, currently CFO at medical technology firm Smith and Nephew, is expected to join in early 2017.

"Trading conditions are still tough, and Burberry seem to be really suffering from the wider reluctance of Chinese tourists to spend like they used to," said Steve Clayton, head of equity research at Hargreaves Lansdown. "The challenge posed by this is clearly worsening and whilst the group is promising cost cuts and a share buy-back, there is little to get excited about in the near term."

Today, Burberry said that first-quarter same-store sales fell 3%, with similar performances noted in the Americas, Asia Pacific, and Europe, Middle East, India & Africa (EMEIA). The result was better than consensus expectations of a 5% drop. Total retail revenue was £423 million ($562.5 million), up 4%.

As of May, Asia Pacific accounted for 38% of revenue, EMEIA 35% and the Americas 27%.

First quarter earnings were largely boosted by recent currency trends. Burberry said it expects a £90 million adjusted profit benefit from the weaker pound in its fiscal 2017 results, up from the £50 million expected when it announced its fiscal 2016 figures in May. The pound fell to a 31-year low against the dollar in the aftermath of the U.K.'s Brexit vote and was recently trading at $1.3286, up 0.29%.

"Even with this FX tailwind growth remains muted over the next three years," Liberum Capital said today. Liberum expects an earnings per share compound annual growth rate to 2019 of 2%, compared with the sector average of 8%.

In May, the retailer of Equestrian Knight Device and the Burberry Check said that it wants to boost revenue by improving retail productivity and boosting e-commerce, and deliver at least £100 million of annualized cost savings by fiscal year 2019.

Burberry said that in the first quarter, sales in Hong Kong continued to drop by a double-digit percentage, while mainland China sales were largely unchanged. It also said that double-digit declines were seen for traveling luxury customers in continental Europe as well as in the Americas.

"In our view Burberry is overly reliant on Chinese demand (40% of sales vs 30% for the industry)," Liberum Capital said.

Today, the company said that while the external environment remains challenging and underlying cost inflation pressures persist, it remains confident in the financial goals outlined in May. The firm said then that it plans to deliver £20 million of cost savings in fiscal 2017, and that its financial ambition to fiscal 2019 was to outperform sector growth in the £200 billion market.

But the longer-term view of the company appears more optimistic.

"Longer term we still like Burberry, the business has a robust balance sheet and throws off a lot of cash," Hargreaves Lansdown's Clayton said. "Luxury goods have been a good sector to be exposed to, because clients are prepared to pay handsomely for that special item, leading to good margins most of the time. Moreover, while luxury consumers are not risk-free clients, they do tend to be resilient, because wealth is typically more durable than income."

Burberry's shares jumped 5.8% in morning trading to 1,273 pence. 

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