The test of a first-rate intelligence, said F Scott Fitzgerald, is the ability to hold two opposed ideas in mind at the same time and still retain the ability to function. By his measure, people of first-rate intelligence have been having a pretty good 2019.
The FTSE 100’s best performer year to date has been JD Sports. The shoe shop’s shares have more than doubled since the start of January, outpacing a retail sector held back by familiar worries about online competition, rattled consumer confidence, over-extended credit lines and high street malaise.
Neither is it an unprecedented event. JD Sports’ market value had already more than doubled in 2013, and in 2015, and had nearly trebled in both 1999 and 2009. It is the London main market’s top performer by far over the past two decades, rising more than 10,000 per cent. (Annual profit before tax over the same period has grown by about 3,000 per cent.)
Many find the secret to its success impenetrable. JD Sports specialises in attracting the difficult to reach Generation Z cohort. Its typical customers are 14 to 20-year-old males, generally in less advantaged socio-economic groups, say analysts at RBC Capital Markets. “They are typically keen on fashion and want to be the coolest kid on the street.” Fashionability costs between £80 to £90 a purchase on average, usually paid in cash.
The stock’s most recent re-rating was founded on hopes that JD Sports would repeat the trick in the US. Last year’s purchase of the underperforming Finish Line shoe store chain for £400m has given the group another 500-plus outlets to rebrand, refit and make Gen Z-compatible. Global buying power should also help JD Sports maintain a happy relationship with Nike and Adidas, which together account for an estimated 60 per cent of group sales.
The cognitive dissonance in the investment case comes from across the pond.
Nike this week hit a record high on forecast-busting quarterly results. The sportswear maker’s North American sales barely grew, but gross margins climbed thanks to Nike Direct, its direct-to-consumer business designed specifically to bypass distributors. (Adidas, of course, has a similar plan.)
As they do every quarter, Nike executives talked a lot about how its own-label shops and online storefronts were only intended to replace “undifferentiated multi-brand wholesale”. The higher quality strategic partners like JD Sports were still adding to the bottom line. They had no reason to worry about their new-season supplies and exclusive edition drops that are seen as essential to the business model.
Really? The promises and the evidence do not quite match up.
JD Sports is Nike’s second-biggest global customer behind Foot Locker, whose US store fleet is about four times as big as Finish Line’s. Yet Foot Locker’s share of Nike’s US sales has been in decline since at least 2010, according to Stockviews estimates, and was overtaken by Nike Direct in 2015. The research house also found that just half of the 50 “must have” products on Nike’s own website were available online from Foot Locker and Finish Line.
Foot Locker was always seen as a tougher competitor to JD Sports in the US than Sports Direct has been in the UK. The share price performance under Peter Cowgill, JD Sports’ long-serving chairman, suggests some faith is merited. So is caution, given his company’s duopoly of suppliers are doing so well building bypasses through a slow-growth, saturated marketplace.
But at 20 times forward earnings, there is not a lot of caution baked into JD Sports’ share price. Any signs that the US expansion is not delivering as expected and the stock might begin to look like an expensive gamble on whether teenagers want to keep hanging around in malls.
Too many Cooks
You probably read a story this week about how a grand old High Street name was killed off by blinkered management and changing consumer habits. Burdened by a capital structure wholly unsuited to the seasonal peaks and troughs of its income, the company slipped into oblivion once overseas backers attracted to the historic brand proved unwilling or unable to wear the cost of any rescue.
And you perhaps read a story about how, on news of the failure, the share prices of direct competitors sprinted higher as analysts totted up the benefits of redistributed market share, improved pricing discipline and so forth.
You could have read identical stories in 2008, when the failed company was Woolworths. The competitors expected to benefit then were HMV and Game Group, which entered administration in 2013 and 2012 respectively. Those trying to pick the winners this week from Thomas Cook’s liquidation should perhaps be mindful that, in times of structural change, schadenfreude has not proven wholly successful as an investment strategy.
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