Douglas - this year
All,
Please find our updated model of Douglas here.
As we are sieving through yieldy, but performing names, it’s been time to sharpen our pencils and form an opinion on Douglas and of course, you’ve seen our decision already two weeks ago. Nevertheless, with Q122 behind us, we‘ve taken some time to understand the company’s online growth, allocate earnings to channels and geographies as best we can and to estimate earnings and liquidity through the remainder of the year.
Competition:
- A few things have changed since the refinancing:
1) The Hut Group’s valuation has collapsed. Having IPOed with a near 50x EBITDA valuation, THG suggested that Douglas’ online division alone could pay for the leverage, even if only half as valuable. Since then, market cap has dropped to some 15% of the 2020 IPO level, but while that is in part due to idiosyncratic developments, many other fashion related consumer online pure plays have dropped to half or even 25% of their valuations a year ago. In contrast to many of those players however, Douglas online has been doing rather well.
2) Sephora have begun their collaboration with Zalando. The result is however far less threatening than the combination sounds. Sephora have placed only a selection of their own exclusively marketed micro brands on the platform instead of a full-blown cosmetics and perfumes store. The impact on Douglas looks very manageable.
3) Pro7 have pulled their sale of Flaconi after being unable to find a buyer for the German online pure-play. The German TV channel had been hoping to attract bids of €1bn for the €300m revenue business but did not find a buyer at that price.
Online:
- Douglas' online channel was just about flat YoY, which - we imagine - must have been a high priority goal internally to come in so close to posting a drop. Still, in a quarter where customers flocked back to brick&mortar stores, the Online channel would have had to re-create probably at least 30% growth to make up for the reflux. Q222 could be more challenging, but overall, we think that’s an achievement.
- Online is certainly profitable. If it weren’t the brick&mortar business would be on fire - and we know that with German footfall of just over 50% 2019 levels - it is not. As per our model, we tend to believe management that (given reasonable cost allocations) online is about as profitable as offline.
Working Capital vs LTM leverage:
- The fly in the ointment is that NWC has been running exceptionally low at the end of Q122. We have been unable to reach final comfort that Douglas can already afford to carry less stock than its store base would proportionally suggest. If it can’t then - see model - we come to a near €180m WC outflow in Q2. This would be huge and perhaps it could be managed a little more digestibly. At current levels that would be a good half-turn of leverage.
- LTM EBITDA however should improve markedly as lock-down impacted Q221 rolls off. By contrast, remaining covid restrictions in the current quarter are gradually falling away. All this should make the online performance of that quarter difficult to match (see extensive sales on the website now - presumably in an effort to drive volume in that channel). The higher EBITDA should however ultimately outweigh the WC outflow and the result would be further deleveraging of the business.
Positioning:
- As part of our portfolio rotation at the end of February (yes… too early), we bought 5% of NAV in the PIKs at 93c/€. The bet here is that the name will tighten - even though it is a PIK - because there company is performing very well and is delivering on its refinancing promises. The name also carries no direct risk from the Russia/Ukraine conflict.
- So for the coming year - until Q123 reporting, we think there will be little to derail the bonds, safe for another waive of covid restrictions next winter, which we should be able to sufficiently anticipate. On the contrary, we should see the store program savings materialise and therefore see the company quite possibly outperform our model.
- From today’s perspective, our thesis does not yet survive Q123. The PIK is large and wants EBITDA growth + online growth. We think both are coming/resuming. But the first hint of another Q1 covid wave would make us sell the name again.
Wolfgang
E: wfelix@sarria.co.uk
T: +44 203 744 7003