Interactive Investor

ASOS turnaround gets City backing after return to profit

15th June 2023 13:37

by Graeme Evans from interactive investor

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Investors hope the online retailer's latest quarterly results signal that a recovery really is under way. Our City writer picks over the numbers and strategy update.

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Interest in fallen ASOS (LSE:ASC) shares increased dramatically today after the fast fashion chain’s better-than-expected margin progress fuelled the City’s turnaround hopes.

The former high-flying stock, which hit a multi-year low of 320p earlier this month, rebounded 54p to a high of 382p as chief executive José Antonio Ramos Calamonte said his strategy unveiled in October was making “great progress”.

This was supported by today’s third-quarter update, which showed underlying earnings up more than £20 million year-on-year with a margin improvement of 250 basis points.

The move towards profitability came despite revenues being down by 14% at £858.9 million for the quarter to 31 May, in line with expectations as the company focuses on the bottom-line over the pursuit of growth “at any cost”.

The update follows the debt-laden company’s strengthening of its balance sheet through a new long-term £275 million financing facility and £80 million equity raise, where retail investors got the chance to buy shares at 418.1p.

Calamonte said today that the fundraising gave ASOS significant flexibility, free of any profit-based covenants, to take the action it needs to turn around the company.

However, the package unveiled on 25 May initially failed to inspire a stock market revival as ASOS went on to lose its place in the FTSE 250 index and the sell-off continued into June amid fears over the weakening consumer outlook.

Investors who supported the fundraising are still in the red despite today’s improvement, although they will be cheered by some City analysts seeing an upside for shares.

UBS has a price target of 660p, while Morgan Stanley is more cautious at 470p. The latter notes that ASOS is valued at 5.8 times earnings, whereas European peers Zalando SE (XETRA:ZAL) and Boohoo Group (LSE:BOO) are at 9.5x and 7.5x respectively.

The City firm said after today’s update: “The additional colour on profitability should reassure investors on the company's ability to deliver a second half margin improvement.”

The turnaround plan is focused on getting to grips with inflated stock levels, which soared during 2021 and 2022 and contributed to a £560 million jump in debt over that period.

Unpredictable demand and disrupted supply chains during the pandemic didn’t help, but Calamonte said significant changes were needed to the way the business was operating.

He hopes to reduce inventory levels by a fifth during this financial year, with this right-sizing of stock levels helping to restore the balance sheet and improve profitability “so we can grow again while generating cash”.

Calamonte, who joined ASOS in 2021 and became CEO last June, said: “There is no instant fix and the necessary changes will take some time, but we are making great progress.”

Alongside the turnaround, takeover interest has the potential to support shares after the Sunday Times recently reported that ASOS received a £1 billion approach from a Turkish company backed by Chinese e-commerce giant Alibaba (NYSE:BABA).

The proposal in late December valued the business at between 1,000p and 1,200p although no talks are currently taking place. Danish billionaire Anders Holch Polvsen holds a 26% stake in ASOS, with Frasers Group (LSE:FRAS) majority owner Mike Ashley owning more than 7%.

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