Frasers Group plc (FRAS) ORD GBP0.10

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Frasers’ full-year revenue fell 0.9% to £5.5bn, as House of Fraser store closures and weakness in Premium Lifestyle more than offset a strong performance from Sports Direct. An additional week in the prior accounting year negatively impacted comparisons.

Fraser's profits from its retail trading operations were down 0.9% to £738.9mn. However, its headline profit measure (adjusted profit before tax) improved by £63mn to £544.8mn, which was towards the top end of group guidance. This was helped by a sharp fall in non-cash impairments to the value of the company's properties.

Free cash flow improved from £327.2mn to £470.9mn, as a result of improved cash generation. Net debt, including lease liabilities, came in at £1.1bn.

Full-year underlying pre-tax profits are expected to grow to a range of £575-625mn.

The board has again decided not to pay a final dividend. Share buybacks in the period totalled £126.4mn.

The shares rose 10.3% following the announcement.

Our view

Frasers' revenue slipped slightly lower as weakness in some of its brands offset a strong trading performance from Sports Direct, which pulled in more than half of total revenues.

Increased automation at warehouses has reduced inventory levels impressively. With more to come, this should free up more cash to funnel into growing other areas of the business or fund more acquisitions. Further expansion in Europe is high on the group's priority list.

The group's so-called "elevation strategy" is moving along nicely too. It calls for new flagship stores to display products in a more flattering and digitally integrated environment, which is helping to strengthen its relationships with major global brands. The likes of Nike and Adidas have even gone as far as to name Sports Direct as a key partner. Other brands like The North Face, Columbia and Salomon have recently been brought into the fold too, which should help boost sales.

This stronger relationship aids the group's ability to secure new and exclusive items from these brands, which can be used to lure more customers into stores. It's this shifting product mix towards higher-end items which is boosting gross margins. We're impressed by the early signs from the new flagship stores, but lots more still need upgrading if the new format is to contribute more meaningfully.

We should mention that there's a decent amount of execution risk that comes with a move of this magnitude. The structural decline in bricks-and-mortar shopping is a force to be reckoned with. And department stores in particular are facing the brunt of the issues - particularly unsavoury lease agreements and falling footfall.

That’s why it was no surprise to see several closures of legacy House of Fraser stores. The associated costs of closing down these stores have dented profitability in the short term, but should free up cash to deploy in more productive areas of the business.

Cost-of-living pressures are another concern. Frasers has some protection in the form of low-cost Sports Direct and it's also pushing into Luxury with its FLANNELS and Gieves & Hawkes acquisitions - pockets of retail that should be relatively insulated.

But these higher-end names didn’t perform as well as expected last year. Frasers is staying the course with its plans to integrate luxury names into its offering, but now expects performance in this segment to remain subdued over the near-to-medium term. That means other areas of the business will need to pedal much harder if this year’s ambitious profit guidance is to be met.

The risks surrounding the retail sector are driving negative market sentiment. And likely due to its high-brick-and-mortar store exposure, Frasers is trading at the bottom end of its peers. We struggle to get too excited about the company at the moment, preferring other names in the sector.

Environmental, social and governance (ESG) risk

The retail industry is low/medium in terms of ESG risk but varies by subsector. Online retailers are the most exposed, as are companies based in the Asia-Pacific region. The growing demand for transparency and accountability means human rights and environmental risks within supply chains have become a key risk driver. The quality and safety of products as well as their impact on society and the environment are also important considerations.

According to Sustainalytics, Frasers management of ESG risks is average.

Frasers Group has board-level responsibility for ESG issues but doesn't align its reporting practices with leading standards. It also discloses a weak environmental policy and whistleblower program. Executive compensation isn't explicitly tied to ESG performance targets.

This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

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