FREE

Sales growth steals show as margins slim

Gear4music continues to deliver sales in line with market expectations and guides towards further expansion in FY2020. However, some profitability issues (flagged in its 5th January 2019 trading statement) remain in place. Near term, investor interest in Gear4music should focus on its brisk sales growth.

Gear4music issued a trading statement today 2nd April 2019 that referred to FY2019. The central message is that sales growth remains on-track at a brisk pace but that profits disappointed although EBITDA should grow in FY2020. Moreover, as G4M continues rapidly to gain market share, profitability should increase majorly in the longer term.

The company states that in FY2019 (i.e. in the 13 months to 31st March 2019), net sales revenue increased by 36% to £118.3m with Europe and International growing at a faster 41% pace than the 33% reported in the UK. Domestic sales were 54% of the business. FY2019 sales based on a 12-month year were £109.9m, which matched expectations.

As mentioned above, profitability continues to be under pressure. In the current financial year, we reduce our EBITDA forecast from £3.0m to £2.1m. In the out years we shave our FY2020 EBITDA expectation from £4.9m to £4.2m and look for £6.5m in FY2021 – i.e. also lower than previous consensus of £7.5m to £8.0m. However, we leave our sales revenue forecasts broadly unchanged at £139m and £170m respectively.

In terms of balance sheet pressures, Gear4music remains in reasonably good shape with £5m cash on hand. Moreover, net debt is expected to be of the order of £9.0m at the close of FY2020 which implies a manageable net debt to EBTIDA ratio of around 2.1x and scope to reduce that much further in FY2021 as net debt is forecast to drop to £7.m.

The group reiterated the key reasons for profit disappointment in FY2019, notably that in the second half of the year gross margins were hurt by higher distribution costs that arose from constraints on warehouse capacity and increased courier cost inflation. However, the longer-term sales outlook is unchanged – i.e. brisk growth.

In our view, the central investment case for Gear4music remains brisk sales growth, both domestically and abroad, with the ability to execute that sales growth sustainably on a cash positive basis. Underlying profitability tends to be confirmed by sustained mid-twenties gross margins and the group’s inherently cash positive nature. At a 0.5x EV/sales valuation, the stock is arguably attractively valued given these qualities.