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Headlam Group plc FY16 ahead of expectations; leads to upgrades across the forecast period – Zeus

Headlam Group plc (LON:HEAD) ten-month trading statement released this morning indicates that trading has remained solid post the interims and FY16 results will be ahead of market expectations. As a result, revenue forecasts increase 2.1% in FY16 to £689.0m (prev. £674.9m). The August price increase on stable volumes lead to increased margin assumptions magnifying the impact on profitability with PBT increasing 4.2% to £37.5m (prev. £35.9m). Conservatively, FY17 and FY18 forecasts increase in line with previous growth assumptions off the higher base in FY16. This approach is prudent in the face of continued currency volatility and low visibility on UK consumer spending into FY17. The referendum could have been a major headwind with c. 60% of COGS sourced in Euros. That Headlam has been able to offset the impact with price rises that have had little impact on volumes highlights the resilience of the business model and its market leading position in the industry. Looking forward the UK consumer will remain key to its performance. However, forecasts assume just 1% revenue growth in FY17 and FY18 and operating margins remain well below the historic peak offering the potential for operational improvements to offset any top line weakness.

* Strong FY16 performance – The new FY16 revenue forecast implies yoy growth of c. 5.3%, in line with that reported after ten months and ahead of the 4.8% reported at HY16 with both the UK and European businesses reporting stronger growth. Albeit the European business saw revenue marginally decline from 2.8% to 2.6% in constant currency. The net impact of price increases implemented in the summer was c.3.5% and contributed 0.8% to the 4.8% like for like revenue growth to date in H2. That the increase in prices did not impact volumes highlights the inelasticity of demand to changes in price and the strength of Headlam’s offering.

* Earnings upgrades in a volatile year – The combination of price increases on volumes that have remained firm has meant profitability has benefitted from operational gearing. This has led to forecast PBT increasing 4.2% to £37.5m from £35.9m on revenue that increases 2.1% to £689.0m. Our previous £35.9m PBT forecast was in line with consensus expectations which we would expect to increase in line with our upgrade on today’s statement. The impact in FY17 and FY18 is of a similar magnitude with both years seeing a 2.1% increase in revenue resulting in PBT increases of 3.4% and 4.1% respectively. With economic forecasts indicating slower UK GDP growth in 2017 and currencies remaining volatile revenue growth assumptions remain low in FY17 and FY18 at just 1.0%.

* Valuation – Headlam Group plc shares have recovered from the recent lows but remain c.10% down 12-month high of 522p. At last night’s close the shares trade on 13.3x earnings post today’s earnings upgrade. The prospective yield remains attractive at 4.6% with the potential for special dividends, as happened in FY15.