End of golden weather for Smiths City

Although Statistics New Zealand tells us this week the trend in retail sales has increased steadily since May 1998, there has been a huge divergence in the performance of the listed retailers.

Some, like Michael Hill International and Hallenstein Glasson Holdings, have been superb performers over the past couple of years, while discounters such as The Warehouse Group and Briscoe Group have had a torrid time.

A year ago, Christchurch-based Smiths City Group looked to be firmly in the first camp, enjoying a charmed existence.

But although net profit in the latest year to April more than doubled to $8.7 million, it is clear the market has become a whole lot tougher for the mainland retailer.

The bottom line result hides the fact that the company's pre-tax profit before investment dividends was down 16.1 per cent to $5.1 million, nearly $1 million less than the previous year.

The bottom line was boosted by a favourable resolution of Smiths City's dispute with Inland Revenue that gained it a $3.6 million refund and allowed it to carry forward about $35 million in additional tax losses, which will mean it won't have to pay tax for several years.

Excluding that refund, the company's net profit would have been up 18.5 per cent, but only because it paid $2 million in tax last year and none this year.

It was only that tax position that allowed it to meet and exceed its target of achieving at least a 15 per cent return on opening shareholders' funds, a feat the company had achieved in each of the previous three years.

The company complains of a number of one-off factors, including the unseasonal weather last summer, which hit sales of products such as outdoor furniture, camping goods and DIY products.

Certainly the second half looks to have been particularly difficult. Although pre-tax profit before investment dividends was up marginally in the first half, it fell 28 per cent in the second half.

The second half also included for the first time the results of the Wellington-based appliances retailer L.V. Martin & Son. Smiths City bought 80 per cent of the company last year (its first North Island purchase since receivers sold the company's North Island stores in 1991).

L.V. Martin's chief executive, Trevor Douthett, owns the other 20 per cent.

Smiths City has previously said all investments must achieve its minimum 15 per cent return on equity. The annual results release commented that L.V. Martin had traded strongly and produced a profit before what was forecast at the time of purchase.

That suggests the original Smiths City business had an even worse second half.

The company also complained in both its first-half and full-year reports of "the ongoing issue of reducing price points in key product areas".

Managing director Rick Hellings says that although the high dollar is a factor, the bigger issues are technology changes and the continuing shift of manufacturing to cheaper economies such as China.

That means the company has to sell greater volumes to maintain its sales levels.

Hellings says that trend has accelerated over the past 18 months, particularly in the furnishings and furniture product categories.

For example, a leather lounge suite would have cost somewhere between $6000 and $8000 three years ago. Today, the same suite can be bought for between $2000 and $2500.

The full-year report also talks about the costs of having to sell, hold and deliver more units, which are rising at a greater rate than sales. The company says management is trying to cut costs and improve efficiency and market shares in product categories in which there are opportunities to improve margins.

It also says the company is investing heavily in staff in Alectra, its wholesaling arm, and that it now employs 30 apprentices across various trades, which represents a short-term cost.

The company says having its own skilled tradesmen in the long term should give it a competitive edge.

Rising interest rates were also a factor.

"The competitive retail environment and, in particular, the use of extended interest-free offers meant we were constantly matching competitor offers and, hence, were unable to pass on increases in interest rates to our customers."

Rising oil prices, electricity prices and wages were also cited as affecting the first-half result, as well as the slowdown in building new houses.

The company also talks about "strong promotional activity" needed to stimulate demand for the type of "big-ticket" items it mainly sells.

Hellings says the company is holding its own on the appliances side of things. Although costs have gone up, "there's enough demand, particularly in plasma and LCD TVs, to offset the lower price points", he says.

It was the slower sales of summer seasonal products, which are high- margin, that hurt the company most.

The appliances part of the business also has the advantage that consumers are strongly brand-conscious. With the exception of the Sleepyhead brand, that isn't the case in furniture retailing.

Rising interest rates and slowing building activity is particularly affecting the group's furnishings and DIY products sales, he says.

The company still says it is "confident that our business model of selling branded product in a full service environment is appropriate for the future". The share market doesn't seem so sure.

A year ago, about the time the company graduated from the alternative market on to the main board, the shares were trading about the 80c mark.

In November, after the favourable tax decision was announced, together with a one-off 1.5c a share unfranked special dividend, the shares soared briefly to 94c. They have since drifted down to 70c.

Certainly, the company doesn't expect much to change during its present first half, particularly with a general election looming.

But it does expect a better second half, particularly if the election result is decisive and the company enjoys more "normal" summer trading conditions.

The trading patterns of the past three years show the company usually earns more in its second half, although in the latest year it was only slightly more than in the first half, even with the addition of L.V. Martin.

Hellings says the company is certainly seeing softening demand and he expects this first-half will be tougher than last year's.

But the summer is unlikely to be as bad and that should offset the impact of softening demand.

* Smiths City

Group Headquarters: 550 Columbo St, Christchurch.

Market capitalisation: $37.1 million

Latest results: The company reported a 102 per cent rise in net profit to $8.7 million for the year ended April 30, but that included a $3.6 million tax refund compared with a $2 million tax payment the previous year. Trading profit fell 16.1 per cent to $5.1 million.

Major shareholders: Director John Holdsworth with 16.3 per cent, managing director Rick Hellings with 9 per cent and chairman Craig Boyce with 6.4 per cent .