21st May 2020

💷 BOUGHT: Shop Direct 7.75% November 2022

Market recovery begins…

After an early to mid-May hitting of the proverbial brick wall, credit spreads have resumed their tightening trend. In the high yield market, the Markit iBoxx index has tightened by 14bp in the month to B+641bp – or by 35bp against the mid-May wide. There will be no miracle ratchet tighter because a lot of bad news is still to come, but we are unlikely going to witness a massive blowout in spreads either. We anticipate a steady tightening in credit spreads as macro recovers.

We’ve had more than what could be deemed a spate of issuance, too, with €3.8bn HY debt issued in the euro-denominated market, although we did have Sappi pull their deal as market volatility abruptly ended their ambitions. We don’t doubt that they will be back.

Global economies are slowly getting back into action. The macroeconomic data for April was dire, it will mostly remain depressed in May but we will be well off the floor come June. The markets are playing into the dynamic while, we think, also positioning for a brighter second half of 2020. It might not be a V-shaped recovery, likely it won’t be, but economies will be recovering.

In the UK, already the BoE is considering negative rates. We’d think it is unnecessary, but another cut will be designed to help promote lending into the wider economy to ensure any recovery is robust. There’s probably a bit of Brexit uncertainty and fears creeping into the narrative. The collapse in inflation serves as an additional excuse (if they needed one) but getting cash into the real economy is the driver.

We had look at the high yield market in the UK. Covid-19 distancing measures of some sort will remain, consumer apprehension of a return to normality will see a reluctance for them to shop as they might have done. We have taken a position in the 7.75% November 2022 issue of online retailer Shop Direct which saw very strong growth for April and has a good chance of coming through this crisis in better shape than which it went into it.

Also see: Our bond portfolio


Shop Direct Business Overview

Shop Direct (Ticker: SHODFP) operates 2 online-only retailers: Very and Littlewoods. These two brands are focused on ‘near-prime’ customers. ‘Near Prime’ is defined as those who may find it difficult to access credit from mainstream lenders.

Both SHODFP brands offer unsecured credit, to allow customers to pay in instalments for products. The company sells over 1,800 brands (as of FY17) across clothing, footwear, furniture, home and electrical departments. Approx. 97% of revenue is generated in the UK (as of FY17). Females account for ~74% and 73% of customers on the at ‘Very’ and ‘Littlewoods’ brands respectively (as of July 2016). Competitors include Next, Argos, Top Shop, House of Fraser.

Business Segments

Among the 2 online brands, Very generates ~75% of FY revenues historically with Littlewoods generating around ~25%.

FY 2019 Revenue £m Split

Source: Shop Direct

As SHODFP also offers customers unsecured credit, the financial services division contributes revenue. However, under a securitisation programme – these customer receivables are securitised. In terms of revenue by division (FY17):

% of Revenue by Division FY 2017

Source: Shop Direct

As of 31 March 2020, the debtor book stood at £1,623m, whilst the interest income has been ranging between £280m (in FY15) and £335.4m (in FY17) and £284.9m in last 9 months to 31 March 2020.

Bad debts of % of the debtor book currently sit at 6.1% (as of 31 March 2020). Historically this has been higher, 8.3% in FY15, 8.3% in FY16, and 7.6% in FY17. This decline in bad debts has been attributed to SHODFP increase in credit quality control, improving debt collection, reducing write-off rates.

Ownership

SHODFP is 100% owned by Sir David Barclay and Sir Fredrick Barclay.

Capital Structure and Liquidity

  • £1,480m Securitization Facility due in 2021
  • £150m RCF due in 2022
  • £153m Super Secured Debt
  • £550m Fixed Rate Notes due in 2022
  • £100m Cash (as of April 2020)

Net leverage (doesn’t include securitization facility) was 2.8x (as of 13 May 2020, up from 2.4x the previous quarter).

Latest Financials Q3 FY20 YTD – 13 May 2020

SHODFP reported a slight decrease in group revenue -1.7% to £1,532.5m (for the 9 months ending on 31 March 2020) versus the same period last year (y-on-y), this was attributed to changes in the financial services administration fee’s policy, improvements in credit decisioning and closure of Littlewoods clearance.

Reported EBITDA for the same period (9 79% 21% % OF REVENUE BY DIVISION (FY17) Retail Financial Services months ending in 31 March 2020) increased +1.6% to £179.2m y-on-y, whilst EBTIDA margin increased 40bps to 11.7% y-on-y. In the financial services sector, net income declined -4.7% to £284.9m y-on-y as customers increased payments on their debts and the debtor book decreased -2.5% y-on-y to £1,632m.

For the period for April 2020, the company disclosed that for the 4 weeks of ending 25 April 2020 (the peak of the lockdown in the UK) sales increased +30% versus the same period in 2019. New customers increased +180% y-on-y whilst Very retail sales up +40% versus the same period last year. Very’s website experienced a +75% increase in visitors in April.

Credit Positives

  • Well-positioned to take advantage of shift of non-food consumer buying trends as a result of social distancing measures due to COVID-19.
  • The company’s retail business offers high-end designers such as Alexander McQueen, Marc Jacobs and Versace on credit, a unique area to capture more consumers.
  • No.2 online retailer in the UK (only behind Amazon) and therefore remained operational during COVID-19 crisis versus high street retail competition, who might not have the capacity to deal with increased online volume.
  • New fulfilment centre, based in East Midlands will improve cost reduction and efficiency.
  • FCA’s 3-month payment deferral initiative due to COVID-19 was not taken up by customer as had originally been estimated and had limited impact on business.
  • Company added +180% new customers in April 2020 versus April 2019.

Credit Negatives

  • In October 2019, SHODFP announced a PPI provision of £241m, with an increase of 275,900 claims, however whilst this was attributed to the upcoming deadline for compensation in August 2019, it required a £150m capital injection from the owners, this illustrated the perilous position consumer credit regulation can affect the business profitability.
  • When the 2022 bond was originally being issued – it included a £200m dividend re- cap to the owners of Shop Direct. This was later scrapped after investors pushed back on the issue, but it calls into question the long-term commitment from owners.
  • A prolonged UK recession will affect SHODFP’s business in two ways; 1.) a decline in discretionary consumer spending will lead to lower revenues in SHODFP’s retail business. 2.) Impairments will rise in the financial services business as customers struggle to make payments on SHOFDP purchases.
  • Management have no stake or own any shares of the company and despite announcing they would expand into the beauty category in October 2017 – they have failed to capture a meaningful share of the lucrative UK beauty market (in FY18 £27.2bn was spent in the UK on beauty products by consumers).

Corporate Structure


Links/References

Suki Mann

A 30+ year veteran of the European corporate bond markets and in his role as Credit Strategist, Dr Mann has been ranked number one in the Euromoney Investor Survey eight times in ten years. Previously with Societe Generale and UBS, he now shares views of events in the corporate bond market exclusively here on CreditMarketDaily.com.