Douglas - Downgrade

All,

Please refer to our analysis here.

The Moody's downgrade of Douglas is weighing on the name, but it's not really for any new insight and if anything runs a little countercyclical to the flow of information as ratings had not been adjusted since the erroneous downgrade in December.

The agency cites the about sufficient liquidity to operate through the next 12 months without raising any further debt. As a PE portfolio company does not have access to KFW loans, but baskets allow for an incremental E300m of secured debt. Clearly issuing that debt pari pass will be difficult - given prices.

All else equal, in a scenario in which Douglas return to only 90% of sales in 2021 (unlikely, but possible), the company would be able to carry its debt, although FCF coverage would only be 1.125x if no cost cutting measures were taken. 

Douglas sell durable "small luxury" goods. That has two implications:

1) if during lock-down people use less perfume / skin care products, then they still may have some supply left when lock-down eases, which should lead to a shallower catch-up. However that was largely factored in on the last call as stores had already opened in Germany.

2) the company does not have to discount most of its current inventory. 

3) the demographic hardest hit by the corona outbreak is not the one shopping at Douglas. The chain is positioned in the premium segment of the market and we don’t subscribe to Moody’s concern that reduced purchasing power will have any more than a marginal effect on Douglas. Shoppers in this segment are more likely to save money on their summer holiday flight this year than to stop their hair colouring routine and commit to wrinkles. 

Other considerations:

1) The company is a Christmas business with nearly half of the company’s EBITDA generated in Q1 (to December). So the current hit to sales has a comparatively limited impact.

2) If mobility is any guidance for demand for cosmetics, then Germany should be back at near pre-crisis levels soon. We have little evidence to suspect that emergence from lock-down should be dramatically more protracted in other countries once rules are eased everywhere.

3) As footfall drops and high-street spending recedes, many boutiques will sadly have to close. This should - and reportedly does - allow Douglas to gain market share.

4) Douglas cannot be said to have been struggling before the pandemic took hold. The company’s well documented travails had been impressively addressed, chiefly with the new pricing architecture and increased online presence. We had projected Net cash generation of E100m this year or approx. 1.5x interest cover. 

Thus we remain constructive on Douglas and remain long the SSNs.

Wolfgang