Card Factory has reported another year of strong, profitable growth. The company remains one of the highest quality retail operations listed in London, recent management changes bring in more skilled talent. Unfortunately, but unsurprisingly, the current valuation fully reflects the quality of this business.

Card Factory added 51 stores in the period driving revenue growth of 8 per cent to £381m. Like-for-like sales grew 2.8 per cent. Operating profit grew 7.4 per cent to £85m on mix-shift to non-card. Profit before tax grew 25 per cent to £83m due to a reduction in interest expense.

Card Factory still looks like a great company. Management grew the chain from basically zero to 814 stores. Vertical integration was a smart move creating a structural cost advantage over competitors (who are probably getting strung up by Hallmark).

Execution was top drawer last year with like-for-like sales growth of ~3 per cent. Card Factory is a large business now, producing this kind of growth isn't easy. Management attribute this to non-card range improvements, the new EPOS system (still to be rolled out to 40 per cent of stores), new merchandising initiatives, and market share gains. Somewhat unusually, management commissioned an independent review of their EPOS system (this may or may not suggest problems with implementation).

The question though is not whether Card Factory is a good business but whether it is good enough to justify the current valuation. The share price has flatlined around 350p, what is going to take it through 400?

Management are targeting 6 per cent growth in the store base, like-for-like sales growth seems unlikely to reverse so ~8 per cent seems like a reasonable growth estimate. The Living Wage will cost £2.5m pa for the next five years, on the current store base, with management expecting to mitigate £1m of this added cost. Some improvement is expected on property costs as the company re-negotiates older, more expensive leases. Further mix shift to non-card could dilute margins but management provide no real guidance on this.

I put together a quick financial model to run some of these assumptions. The Living Wage, even assuming flat mitigation and a rising store base, doesn’t look too worrying. More important, is that by 2021 the company will either need an unprecedented level of like-for-like sales growth or store adds to hit 8…

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