Currency Effects and Weather Weigh on H&M

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H&M’s financials continue to be affected by operating in a market where the home currency remains strong, with the Swedish krona persistently rising against most other global currencies. But this was a particularly difficult quarter for the business, as the colder-than-usual weather in Northern Europe and the Scandinavian region (where around half of its locations operate) also weighed on results, and H&M realized lower sales volume than it had anticipated. Both of these factors are largely out of management’s control, and our long-term outlook regarding the favorable growth potential of the business is intact.

In the second quarter, H&M recorded sales (excluding value added tax) of SEK 31,635 million, flat year over year. While the company experienced healthy location growth of 13%, it was hindered by sales in comparable units that fell 4% and significant currency translation effects of approximately 9% (sales would have been SEK 1.8 billion higher in constant currency). The gross profit margin contracted 60 basis points year over year, to 61.1%, as a result of increased markdowns from higher stock in trade entering the quarter paired with a colder spring than anticipated.

The selling, general, and administrative expense ratio rose more than 200 basis points, to 42.1%, boosted by spending on projects to improve the business, including IT, online expansion, and the launch of & Other Stories. We anticipate this ratio will continue to rise as H&M expands the business, especially in 2014 with the launch of a new sportswear concept. Inventory levels were higher than management expected, growing 12% year over year, which we believe is reasonable considering location growth. Management should have no concerns rightsizing the inventory levels in the retail channel over the next quarter, in our opinion.

The company’s expansion plan remains intact, with 350 new locations anticipated for the 2013 calendar year (in line with unit growth goals of 10%-15% per year) and the launch of online in the United States this summer (in tandem with Inditex’s online American launch). The business continues to grow across all brands into new countries, both by brickand- mortar and online presences. The H&M Sport concept could be a home run for the company, as the brand builds credibility by dressing the Swedish Olympic team in 2014 and 2016 and is designed by Olympians. These longer term growth concepts and ideas position H&M for continued success in gaining market share and recognition as it expands its presence globally.

 

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