JBH: 22 year revenue growth streak ends

Over 18 months ago I wrote an article about JB Hi-Fi (ASX:JBH). At the time it had a StockRank™ of 98 which included a Quality rank of 99. The article included the comment “Analysts are predicting that this streak of revenue increases will finally expire in 2023, but they have been wrong before.” They were wrong again. Revenue increased in FY23 by 4% to mark the 22nd year in a row of increasing revenue. However the streak finally came to an end in FY24 with a small decline of 0.4%.

But when it came to predictions about profits, the analysts community were a bit closer to the money. I wrote, “Most market analysts are forecasting tough times ahead for the major retail stocks with reduced sales and increased costs leading to significant reductions in profits over the next two years.” This did come to pass, with operating profit as well as net profit declining in both FY23 and FY24. The fall in net profit in FY24 was 16.4%.

The decline in net profit was due to increasing cost pressure, with the biggest component being an increase in labour costs of 6.2%, along with rent, administrative expenses and interest expense all increasing.

Despite these challenges, the StockRank remains at 98 with the quality rank having slipped marginally to 97. This reflects the consistently strong long-term performance of key metrics including Return on capital employed (ROCE) consistently in the high 20s or above, the long-term average free cash flow to assets above 19%, and consistent sales growth along with the conservatively managed balance sheet.

Given that analysts were correct and normalised EPS declined from $4.80 to $4.01, a fall of 16%, you would expect the share price would have also travelled in a similar direction, but you would be wrong. The share price has risen about 70%.

So if revenue is flat and profits have fallen, why has the share price risen so much?

The first point to note is that the share price rallied 13.2% in the three days following the release of the FY24 earnings announcement. This reflected three main things. One, things weren’t quite as bad as people were expecting. Two, the forward outlook was stronger than expected with sales figures for the month of July, quite strong. Three, they announced a special dividend of 80 cents per share, taking the total dividend payout for the year to $3.41 fully franked.

All of these factors suggest that the underlying business is performing well and that management have confidence in the future. The story about cost of living pressure and high interest rates is well known. Investors are looking further into the future, beyond the current cycle, and they see a business that is well positioned to capitalise when inflation starts to fall and consumer confidence picks up.

The business performance is broken out across three segments:

• JB Hi-Fi Australia

• JB Hi-Fi New Zealand

• The Good Guys

The JB Hi-Fi Australia business achieved a small amount of revenue growth of 1%. This segment accounts for 69% of revenue. It also achieves the best margins, and whilst the operating margin fell by 1%, that was still a better performance than the other two segments.

JB Hi-Fi New Zealand experienced strong revenue growth of 12.3% on the back of five new stores being opened taking the total New Zealand store count up to 19. New Zealand only makes up 3.4% of revenue. The investment in expansion meant a hit to the bottom line with the New Zealand segment slipping into an operating loss.

Home appliance retailer The Good Guys was the biggest drag on the business. Sales fell almost 5% and given they make up 28% of group revenue, they had a significant impact on the overall business. Operating margins also fell 1.67% dragging down the group operating margin from 7.99% to 6.75%. The one encouraging sign for the Good Guys is that they returned to growth in the final quarter of the year, with steady progression throughout the year following a big slump in the first quarter.

The Momentum score is now sitting on 98 following the really strong share price performance over the last 12 months with a one year relative strength of 46%. This has been boosted by marked increases in analyst’s expectations for earnings throughout the year with a large jump following Monday’s results announcement.

Whilst there are positives in the underlying business performance, the magnitude of the share price performance does not really reflect the current operating performance. In other words, a large component of the rally has been sentiment based. This is reflected in the expansion of valuation metrics. In December 2022 the forward PE ratio was 11.2 and the forward dividend yield was 5.8%. 20 months later, those same metrics are 19.1 and 3.54% respectively. Investors who are buying today are willing to pay a lot more for earnings that are projected to be a lot lower than what they were 12 months ago, based on the belief that the worst of the pain has passed and better times lie ahead. This reflects in the Value score of 63.

JB Hi-Fi has been a very well run business for a long time. They are known for their bargain prices and if consumers are feeling the pinch, they may have an advantage relative to their competitors. And if the economic cycle turns soon, they should be well positioned to take advantage of it. But their share price is certainly not marked down at the moment.

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