No respite for AB Foods as Primark misses the mark

This is not an update to set the pulse racing, with some particular disappointment emanating from the central Primark business.

When Associated British Foods (LSE:ABF) reported its full-year numbers in November, covering the year up to mid-September, the performance had been solid and the outlook set fair. The strong cash generation led to a new share buyback programme of £500 million, as well as an increase of 50% to the total dividend for the year including specials, which now translates to a projected yield of 4.7%, significantly higher than has been the case in recent times.

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However, some of the concerns which the market subsequently anticipated, leading to a share price decline of 22% over the last six months, have unfortunately come to pass. While only accounting for 13% of overall sales, the Sugar business was under pressure due mainly to oversupply, while the fact that Primark trades at the lower end of the value chain raised questions as to whether an already hard-pressed consumer would be able to continue with discretionary spend.

A decline of 0.4% in revenues for the 16 weeks to 4 January meant that Primark missed the mark in the first quarter, with growth over the key Christmas period more than offset by weaker autumn trading more generally. While markdowns to its stock were well-managed, resulting in decent inventory levels and protected gross margins, the performance in UK and Ireland was a particular thorn in the side.

Accounting for 45% of sales, Primark UK & I suffered a decline of 4%, and 6% on a like-for-like basis, which hampered the overall number. Other geographies picked up some of the slack, but even combined did not have the size to offset this weakness. Sales in Spain and Portugal, for example, accounted for 18% of sales and grew by 9%, with the US showing figures of 5% and 17% respectively.

Primark now has some catching up to do in order to return to being the jewel in the crown for AB Foods. There are positive prospects which remain intact, but these will now need to take on some heavy lifting. Although the US business is still in its fledgling stage, accounting for 5% of group revenues, the potential for growth is evident as the group focuses on investment and marketing to lift brand awareness in what could be a major opportunity.

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In addition, the online presence is also receiving attention from the group, and there are now 113 stores where the Click & Collect service is available, and the stock checker facility is seeing significant growth. While the online offering is far from the finished product as seen at many of its competitors, it is part of a two-pronged approach whereby physical stores remain a top priority for the group.

In the meantime, overall group revenues declined by 2.2% in the quarter, and whereas the conglomerate usually sees the benefit of diversification whereby some units compensate for others showing weakness due to the economic cycle, revenues were down across the board. Apart from Primark, there were revenue falls of 1.8% in Grocery, 1.6% in Ingredients, 6% in Sugar and 5.1% in Agriculture and it remains to be seen whether this perfect storm will hold in the months ahead.

In terms of outlook, the group is anticipating that Primark will grow by a low-single digit percentage this year – previously guided as mid-single digit - with adjusted operating profit broadly in line with last year. AB Foods is estimating that the continued rollout of stores will further boost sales growth, mitigating the damage already caused by weaker autumn trading. At the same time, the ongoing investment in the business and general inflation should be offset by improving gross margins and tight cost controls.

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The update and outlook comments show that cautious consumer sentiment is already beginning to weigh on prospects, as had largely been predicted following the measures announced in the Budget which were seen as being particularly harmful to the retail sector.

Prior to this statement, the shares had fallen by 15% over the last year, significantly underperforming the 14% gain for the wider FTSE100, and if the news is followed by downgrades, this would in turn put further pressure on a market consensus currently stuck at a hold.