NEXT plc (LON:NXT) has announced its results for the half year ending July 2020.
CHIEF EXECUTIVE’S REVIEW
Performance in the First Half
● Profit before tax of £9m1
● Full price sales2 down -33% on last year
● Surplus cash generation (after capex, tax and interest) of £347m
Guidance for the Full Year
● Full price sales in the last seven weeks up +4% on last year; a strong start but driven by recent cool weather and fewer overseas holidays
● Central guidance: full price sales for the rest of the year to be -12%
● Central guidance: profit before tax of £300m3, up from the central scenario of £195m given in July’s Trading Statement
● Central guidance: year end net debt to reduce by £462m, to £650m. Year end net debt forecast to be around 65% of £1.0bn customer receivables
1 Profit before tax of £9m is pre-IFRS 16, Leases. The financial information presented in pages 2 – 41 is that used by management to monitor and assess business performance. They are not statutory measures. A reconciliation to the statutory equivalents is provided in the Appendix on page 42.
2 Full price sales are Total sales excluding VAT, less items sold in our mid-season, end-of-season Sale events and our Clearance operations. These are not statutory sales (refer to Note 3 of the financial statements).
3 Profit before tax of £300m is on a 52 week basis. This year has 53 weeks; the extra week is forecast to add £12m of profit before tax.
FOUR KEY MESSAGES
There are four main themes that have emerged through the course of the year:
|SalesResilience||The Company’s sales performance through the pandemic has been more resilient than we expected. The scale of our Online business (in the UK and overseas), the breadth of our product offer, and the fact that much of our store portfolio is located out of town, have served to mitigate the worst effects of the pandemic on trade.|
|Financial Stability||The Company’s finances are in good shape. We have reduced our stock levels and costs as the pandemic progressed. We have also generated cash flow from: (1) our customer credit book and (2) the sale of some assets. These actions, along with the fact that the business went into the pandemic with healthy net margins and low capital requirements, mean that we are likely to go into next year with significantly less net debt than we had at the start of the year.|
|New Waysof Working||From a business perspective the pandemic has been hugely expensive and disruptive – but there has been much to learn from the experience. We have discovered powerful ways to improve our warehouse and call centre operations. Perhaps more importantly, the experience of having to work from home has opened our eyes to new and better ways of working, collaborating and communicating amongst ourselves and with our suppliers.|
|Opportunities for New Business Development||The sharp slowdown in our operations has given many of us the time and the motivation to accelerate our efforts to leverage the Company’s skills, people and infrastructure – developing new businesses in a rapidly changing world. We have consciously increased our appetite for new ideas, along with our willingness to take on the risks associated with investing in new projects. The pandemic has created a more fluid environment in which opportunities are likely to emerge at speed.|
Sales have held up much better than we initially anticipated. We think the following three factors have worked in our favour:
● The scale and continued success of our Online business which, before going into the lockdown, accounted for more than half of our turnover
● The fact that we have significant Home, Childrenswear, loungewear and sportswear businesses, which have done relatively well during the pandemic
● The relative strength of our out of town Retail Park stores
The Relative Size of Our Online Business
NEXT was fortunate that its Online sales accounted for more than half of its turnover going into the pandemic, so we had the scale online to make up for some of the business we lost, and continue to lose, from our stores. Interestingly, sales Online have been significantly stronger since our stores reopened than they were before the pandemic struck. It appears that some lockdown habits have stuck, and we have been able to take advantage of this shift to Online.
It was a stroke of good fortune that the product areas that did well, also had much lower rates of return. So every item despatched was less likely to come back and more likely to convert into a sale. This meant that limited picking and packing capacity was used to best effect.
It has not all been plain sailing. In March we had to close our warehouses in order to make them COVID safe. The scale of that task should not be underestimated – 6.8m square feet of warehousing had to be repurposed to achieve rigorous social distancing. One-way systems, perspex shielding, sanitation equipment, temperature monitors, additional loos and new operating procedures were designed and installed in two weeks. We then had to re-induct and retrain over 4,000 colleagues.
As might be expected, some product areas did better than others during lockdown. Unsurprisingly, sales of clothing for work, weddings, going out and warm weather holidays were significantly down on last year. In some weeks, areas such as men’s and women’s suits, occasion dresses, formal shoes and party clothes were as much as 80% down on last year. In contrast, childrenswear, sportswear, loungewear, underwear and home products performed much better, particularly Online where, in some areas, we experienced significant growth. It is testament to many years of innovation and hard work from our Childrenswear and Home product teams that these better performing areas accounted for around half of our sales going into the pandemic (see graphic below).
Product mix graphic: Click or paste the following link into your web browser to view the PDF document. Refer to page 5 for the relevant graphic. http://www.rns-pdf.londonstockexchange.com/rns/2805Z_1-2020-9-17.pdf
Although these trends are now moderating, they have not reversed and we do not expect to see these trends change direction until next year, at the earliest.
The sales performance of our stores, although down on the year, has steadily improved since they reopened. However there has been a marked difference in the performance of different types of store. The difference is easy to explain in terms of people’s reluctance to be in crowded places, particularly those that many would normally access through public transport. In addition (and again unsurprisingly), those city centres that are most dependent on office worker trade have fared much worse than the average. In contrast, retail parks where customers can park and walk straight into relatively spacious stores have performed much better. Smaller towns have also generally performed better than larger cities.
The charts below set out the cumulative performance of our stores by category since reopening, along with the percentage of total Retail sales that each store type accounted for going into this year. The regional shopping centres are stores in large out-of-town or edge-of-town shopping centres such as Thurrock Lakeside, Sheffield Meadowhall and Gateshead Metro Centre.
Retail Store Sales Versus Last Year by Store Type chart: Click or paste the following link into your web browser to view the PDF document. Refer to page 6 for the relevant chart. http://www.rns-pdf.londonstockexchange.com/rns/2805Z_1-2020-9-17.pdf
Participation of Retail Sales Year Ended Jan 20 chart: Click or paste the following link into your web browser to view the PDF document. Refer to page 6 for the relevant chart. http://www.rns-pdf.londonstockexchange.com/rns/2805Z_1-2020-9-17.pdf
Healthy Net Margins and Capital Discipline
Retail is a volatile industry, and we have always taken the view that our net margins need to reflect the levels of risk inherent in an unpredictable market. We have managed our pricing and investment appraisals to maintain healthy net margins and good returns on capital invested, occasionally at the expense of accelerating growth. As a result of these disciplines, our business is geared up to deliver good operating margins alongside low levels of capital consumption, resulting in a business that has been, and remains, highly cash generative.
For example, our investment hurdles for new store openings are (and have always been) that they must achieve at least 15% net branch contribution before central overheads and payback capital invested in less than two years. As a result, the net branch contribution of our entire store portfolio at the start of the year was 20%, despite the fact our stores had been losing sales to Online for five years.
The Ability to Control Stock
We were able to reduce our stock holding by much more than we had anticipated in March. We had planned for sales in the first half to grow by +3% and, at the end of February, our stock was up +3% on the previous year. We were able to reduce the cost of stock for the first half by £220m4 by (1) cancelling orders that had not yet gone into production (but paying for unused fabric), (2) hibernating stock for the following year and (3) reducing future orders. This meant that, despite full price sales decline of -33% in the first half, we generated -17% less markdown stock than at the same time last year.
4 The figure quoted is the stock cancelled net of stock provisions.
The Quality of Our Customer Credit Book
We have always considered that the Group’s net financial debt (currently £765m) needs to be viewed in the context of our net customer receivables which, after provisions for bad debt, stand at £1.0bn at the half year. We believe the performance of our customer receivables over the last six months has demonstrated the quality and resilience of this asset in the most extreme circumstances.
At the height of the pandemic, Online sales, along with the associated consumer lending, declined. However, as the season progressed, customer payments carried on much as usual. The combination of less lending and normal collection rates meant that during the half we collected in a net £241m of consumer receivables.
As yet, we have seen no deterioration in bad debt rates or any extension in payment days (the length of time that customers choose to pay down their account), although we are providing for some increase in bad debt during the second half in anticipation of any fallout resulting from the end of furlough.
NEW WAYS OF WORKING
The pandemic has been expensive and miserable. But some good has come from the upheaval. It is remarkable what can be learnt from shutting down your entire operation and slowly, department by department, store by store, warehouse by warehouse, bringing it back to life. All the more challenging and informative with much of the endeavour managed by hundreds of our colleagues sitting in their spare bedrooms, kitchens and conservatories! We have learnt how we can work more effectively. Lessons which, if we are careful to preserve them, will stand us in good stead for years to come.
The benefits fall into two categories: (1) in our warehouse and call centre operations we have discovered more efficient ways of working and (2) in non-operational departments such as IT and Buying, working from home has forced us to take advantage of new technology with all its possibilities for improved communications, efficiency and employee job satisfaction.
At this point it is only right to mention the extraordinary effort made by so many colleagues, at every level in the organisation, to keep the Company running through lockdown. The hard work, enthusiasm, ingenuity, common sense and determination of colleagues from so many diverse parts of the Company has been an inspiration. From warehouse managers to buyers, systems programmers to store managers and financial analysts – NEXT employees have pulled together to keep the Company running in circumstances none of us could have imagined in January. I know our experience has not been unique, but nonetheless over the last six months I have, on many occasions, felt very thankful that I work for NEXT.
Operational Improvements in Warehouses and Call Centres
The process of ceasing virtually all warehouse operations and slowly, operation by operation, winding them back up, was instructive. Social distancing forced us to spread work as evenly as possible over 24 hours and in doing so, we discovered we could be much more efficient if we allocated work differently going forward. We also gained an insight into the true costs of stretching our next-day delivery cut off to midnight and we are actively reviewing whether that last hour is really worth the costs involved.
At a time when we needed them most, COVID rendered our Call Centres virtually unusable. We needed to get colleagues taking calls from their homes. For many years we believed this was simply not practical or possible. I am grateful to Alex Baldock (CEO of Dixons Carphone) for sharing his experience on this issue. Within five weeks of Alex explaining it was possible, many of our managers and staff were set up to take calls from home.
The solutions we have in place are temporary and need enhancing and we are still struggling to keep up with call centre demand. We need to recruit additional staff, invest in new equipment, develop new management techniques and invest in upgrading software. But we now know that we can employ customer service agents in their homes for some of their working days. This opens up the possibility of creating more flexible, convenient and enjoyable ways of working, making it easier for the business to recruit and retain staff whilst enhancing our ability to flex up work when we experience spikes in call centre demand.
Working from Home – the Good, the Bad and the Unknown
Reducing the number of long commutes, with all their stress and inconvenience, and eliminating the distractions inherent in the office environment has allowed some solitary tasks (such as systems coding and product design) to become more focussed and effective.
In our Buying teams, restrictions on overseas travel have actually encouraged more regular contact with suppliers and closer collaboration through video calls. Many of our Buying teams have succeeded in developing and selecting new ranges remotely using digital technologies to handle diverse tasks from amending garment fit to checking colour continuity. The result, in many cases, has been more focussed, more frequent and faster decision making. Decisions have been made on the spot rather than being ‘saved up’ for trips or selection meetings. At best, these new ways of working have engendered independence of action, creativity and stimulated innovation.
Standing back from these changes one important theme emerges. We have had to let go of some of our time-honoured product selection processes – with all their checks and balances – and we have empowered individuals and small teams to make more decisions outside of the corporate machine. For many, this has been liberating and the best people have increased and improved their creative output. With hindsight, it appears that the corporate machine was supporting the inexperienced and the less able, but holding back the strong.
By far the biggest problem with home working has been the lack of spontaneous conversations between colleagues. We have missed the chance conversations, unplanned questions, the ability to learn from colleagues, along with the training and camaraderie that the office provides. At its best, an office can be a cauldron for new ideas and enhanced collaboration.
Where problem solving requires large groups to work together, video calls have proved unwieldy, frustrating and inefficient. Worst of all perhaps, large video calls have encouraged the proliferation of one of the business world’s most damaging practices – death by deck: slideshow presentations that transform meetings from productive exchanges of ideas into boring, one-way lectures; with the “presenters” rattling through bullet points already visible to their stultified audience.
The Unknown – Home Working Going Forward
It is too early to judge how much working from home will become a permanent feature of life going forward. It will vary from department to department, job to job and person to person. Ultimately there will be a balance between home and office working; finding that balance will take time and care.
We will avoid edicts from the Boardroom that impose a one-size-fits-all solution for working from home. Instead, we will allow the balance between working from home and in the office to evolve over time, allowing each functional area (Buying, Design, Systems Development, etc.) to work its way towards the optimum working practices for its particular needs and its particular people. We will, however, set out some very clear simple principles which we expect people to follow when determining the balance between home and office working – above all else we need to be clear that the business must come first.
NEW BUSINESS DEVELOPMENTS
The lockdown has done nothing to impede the development of the new businesses we mentioned in our March Report (Total Platform, Licensing and Beauty). If anything, the upheaval has served to accelerate the rate of development, partly through giving us the time and space to develop new ideas, partly through opening our minds, and those of our potential partners, to new ways of collaborating in an industry that is changing faster than ever.
That said, there are clear boundaries to the ideas we will consider and beyond which we will not reach. New businesses must satisfy four simple tests. They must:
● Create value – for our customers and our clients
● Play to our strengths, assets and expertise
● Make a margin commensurate with the risk of the endeavour in question
● Make a healthy return on capital
We have recently launched our first Total Platform website for Childsplay Clothing, an online retailer specialising in luxury branded Childrenswear. The new site was launched on time and is working well.
The aim of Total Platform is to allow clients to grow their business without the capital costs, operational risks and management time associated with developing increasingly complex and expensive infrastructure. No one starts a new brand because they are passionate about warehousing and data protection! Total Platform allows brands to focus on the things they love doing and where they can add the most value – building their product ranges and developing their brand.
Total Platform graphic: Click or paste the following link into your web browser to view the PDF document. Refer to page 10 for the relevant graphic. http://www.rns-pdf.londonstockexchange.com/rns/2805Z_1-2020-9-17.pdf
Total Platform services include: website systems, an online marketing platform, warehousing for boxed, hanging and palletised products, distribution networks (including to our c.500 stores), returns handling, call centre services, account management systems, payment systems, credit facilities, data management and security systems, international websites and other online infrastructure along with our marketing and operational know-how. We have recently extended the scope of our services to include retail warehousing and distribution alongside the use of our proprietary point-of-sale software.
Total Platform is a pay-as-you-go answer to operating an online business. Clients pay through a simple commission on sales, so there are no uncomfortable step-change increases in fixed costs and no capital requirements to support growth. No one needs reminding that fashion is a volatile business and the variable cost base also serves to protect the client should they have a difficult year. And, of course, the commission model has one other vital function: it aligns our interests with those of our clients; if they do well, so do we.
Victoria’s Secret UK and Eire Licence
Victoria’s Secret and Pink are leading Lingerie and Beauty brands owned by Lbrands, a public limited company based in the United States. We have agreed terms with Lbrands to set up a joint venture selling Victoria’s Secret and Pink products under licence in the UK and Eire. This agreement is subject to and contingent upon regulatory approval. Subject to, and contingent upon, that approval, the joint venture aims to operate through the following routes to market in the UK and Eire:
· Around 18 Victoria’s Secret stand-alone stores
· Select ranges sold on concession in selected NEXT stores
· A dedicated Total Platform Victoria’s Secret website (UK and Eire only)
· Through LABEL on the next.co.uk website
The deal has been led by our Lipsy subsidiary and NEXT’s share of the joint venture’s profits will be reported as part of Lipsy’s Profit and Loss account.
Online Commercial Terms in Outline
Lbrands will sell stock to the UK joint venture at cost. Sales of goods online, whether through LABEL or Total Platform, will require the joint venture to pay: (1) a royalty fee to Lbrands and (2) a commission to NEXT. These arrangements have been negotiated so that Lbrands and NEXT make broadly the same profit on the joint venture’s operations.
Retail Commercial Terms in Outline
Retail services, such as warehousing, systems and distribution, will be provided to the joint venture by NEXT through our Total Platform. These services will be recharged to the joint venture at cost. Sales through physical stores will not incur a royalty fee. The profit generated by the joint venture is shared between NEXT and Lbrands.
Our licensing business aims to marry our specialist sourcing and quality control with the design flair of partner brands, allowing partners to venture into areas where specialist knowledge or lack of scale are barriers to entry. We are focussing mainly on Childrenswear, selected Homeware categories, swimwear and men’s formalwear and have licensing agreements in place with six companies.
We expect full price sales of licensed products this year to be c.£12m, generating £2m of profit. On an annualised basis we expect full price sales to be c.£25m and to generate £5m of profit. We expect to continue increasing the number of license partners we collaborate with as the year progresses.
We have significantly increased the breadth of our beauty offer and we now sell over 280 beauty brands. In the first half we added 43 brands, including Tom Ford, Versace and Liz Earle. We expect to add more key brands as the year progresses, including YSL, Bobbi Brown, Urban Decay, Giorgio Armani Beauty, Too Faced, Lancôme, Kiehl’s, Mugler and Viktor & Rolf.
Our Online Branded Beauty business grew in the first half by +19% despite the lockdown. Over the last thirteen weeks it has experienced much stronger growth of around +60% and we are forecasting this level of growth to continue in the second half.
Beauty Halls Trial
We have agreed to work in partnership with the landlords of four locations to create a new large Beauty and Home store concept. These stores will offer Branded Beauty counters and fragrance alongside our Home range and a selection of Women’s accessories, gifts and lingerie. We aim to open stores in Watford, Milton Keynes and Gateshead Metro Centre during October with Reading opening before Christmas.
FOCUS ON THE NEXT BRAND
There is risk that the excitement around new business projects might distract us from our most important tasks. In these situations, it is not uncommon for the froth to take precedence over the beer! We remain acutely aware that our primary task is the continued development of the NEXT brand. At the heart of the brand are our product ranges. No new venture can be allowed to detract from the buying, design and merchandising of our NEXT product ranges.
It should give shareholders some comfort that the main Product divisions and their leadership are not generally involved in the development of these new business areas. The only exception being some of the newer and smaller licence areas where their expertise is valuable.
The leadership of our LABEL division is taking responsibility for developing client relationships for Total Platform, which ties in well with the relationships they have already established with our LABEL partners.
The Development of Our Ranges
The pandemic has made it hard to assess the underlying performance of our product ranges; the disruption serves to hide our mistakes and triumphs in equal measure! As always, there have been errors and omissions, but in general we have been very happy with the ranges we have developed for this first half and, in some areas, we have seen a flourishing of creativity.
As mentioned above, in many areas, the pandemic has served to further encourage the innovation and independence of action we have sought to foster for some time. Our teams have, more than ever, tested the boundaries of their product ranges: pushing the breadth of styles they develop and the categories they sell. They have broadened their supply bases, in some cases sourcing better design and quality, in others faster lead times. Often, in doing so, they have also stretched their price architectures.
Standing as we are, in the midst of the pandemic, with no sign yet of abatement or vaccine, it might seem odd that the essential tone of this report is optimistic. Particularly, some might say, coming from NEXT.
But our confidence in the future is not because we see a comfortable route through to the end of the pandemic. The prospects for the next six months remain as uncertain as the outlook for the virus itself; never has our guidance been more tentative or as broad in its possible outcomes.
But in all our guidance scenarios the Group generates a profit, generates cash and reduces its debts. So we can look to the end of this extraordinary time – whenever that may be – in the belief that we can build on the strength of the NEXT brand, its people and its infrastructure along with all the new opportunities those assets might deliver.