For Subscribers

Get the complete article now!

TWST: To get back to Hennes & Mauritz, which just opened a store here in New York. As you mentioned expansion being one way to deal with the over-capacity issue, do you think that is a workable strategy for them?

Mr. Shiret: I'm a seller of Hennes & Mauritz. I've got a share price target of 100 Kroner against a current share price of 181 Kroner. Essentially, the problem is that Hennes has had two bad seasons in Europe and estimates have come down. They're being affected by currency hits as 60% of their sales are in Euro land, and their results are translated into Kroner, which is outside the Euro zone and is much stronger than the Euro. So that hasn't helped them. The other currency effect is that they're having to buy in dollars and sell in Euros for a lot of their markets, which can't be very good news. I think, so far, that hasn't really come through in the P&L because of forward exchange cover. They are having some problems and, at the moment, I think they've got a 29% inventory increase year on year at the end of Q2 with a sales increase in the second quarter of about 7%, so they've got far too much inventory, which is going to have to be cleared in Q3. There is some issue because they buy a big amount of their product in the Far East for cost reasons. There is an issue about their flexibility to change their autumn/winter range to reflect some of the issues that they've had with the spring/summer ranges. That combination is not great news. I think my more strategic issue with Hennes is the balance of their expansion program, which I believe, has increased the risk. The point I think with this is that Hennes has typically expanded by going into adjacent regions to its existing trading regions, and it's more of a North European retailer. You tend to find there are three product areas in Europe for fashion. There's North Europe; for the Latin stroke, South Europe; and then to the East, it is somewhat less advanced, shall we say. Hennes has been typically a North European retailer. Its biggest market is Germany where a third of its turnover originates and where it probably gets over 40% of its EBIDT. They are now slowing down in Germany. It looks like comp store sales in the last quarter were down between 3% and 5%. It may be just a seasonal thing because of the product and that might come back. But the issue is that if you look at the two big trading areas of Scandinavia and Germany, Germany's got very high EBIDT margins. Scandinavia's got no opening program anymore, so it actually throws off cash in the same way as Germany does. The cash flows in those two areas have been used to finance expansion into new territories. At the moment, they're expanding into principally three new territories. They've been in the UK for a long time. The main territories they're expanding into are France and Spain. In France they started a couple of years ago. In Spain they started last year, and then there's the US. They're into three new territories, which is sort of historically quite a big amount of new territories for them. Two of those territories are Latin, Southern European sort of territories. Consequently, there is some debate as to whether the product offer will be acceptable there. The third territory that they're in, the USA, I think has market characteristics that are very demanding anyway. I think there are signs being thrown off by the store on Fifth Avenue. I actually think it's quite a bad store, having been in it. I think that the real issue is that I would have thought it would be much more sensible to try to establish the acceptability of the brand more widely before committing to a 75-store opening program over three years. The cash generating part of the business is slowing down quite a lot. The cash absorbing part of the business was already in quite an aggressive condition, and now it's being made more aggressive. I think that the US market is very, very much more demanding than the European markets. If you look at the concentration of competition in Germany versus the USA, I mean in Germany 40% of the German clothing market is still run by independents, mom and pop shops, whereas 20% of the US market is run by Wal-Mart, K-Mart, and Target. The markets could not be more fundamentally different, I think. So, why is it that they feel that they are going to be so successful? They are saying the sales densities have exceeded their wildest expectations on the stores that they've opened so far. If you look at sales densities of people like the GAP in the US, they're doing about 700 a square foot a year. Hennes in New York so far has been doing about 1,800 to 1,900 a square foot and those are big figures, but the store is on Fifth Avenue and they must probably be paying 500 a square foot in rent. Why is it that Hennes & Mauritz should appear to achieve such a superior sales density to GAP across a very wide area of the US? I don't think it will. If you look at Hennes in Europe, they're only achieving about 500 to 600 a square foot, which I think is what they're more likely to normalize to in the US. I think with the signs they've taken from the first store, they're being much, much too optimistic.