Wednesday, June 12, 2013

Williams-Sonoma is Firing on All Cylinders

The housing sector remains a favored play amongst investors and Williams-Sonoma’s latest results highlight the attraction of the sector. The company is firing on all cylinders and benefiting from a number of growth drivers that are helping to push its stock to all-time highs. Is now the time to pile in or to start to take profits?

Williams Sonoma confirms growth momentum

I last looked at the stock in a previous article. The salient points raised then related to the necessity for the company to expand its online activities and international expansion programs. Both are needed in order to allow the stock to grow into its evaluation.

With a price-to-earnings ratio of around 20 times, it was hardly cheap. The company was stepping up capital expenditures this year to a range around $200 million to $220 million. All expansion programs come with risk, and there are no guarantees that international markets will take to its products as well as they do in the U.S.

The good news is that, if the latest set of results are an accurate precursor to future events, I think that the company is slowly de-risking these fears. Here are its key profit growth drivers, as previously discussed by the company.

  • Overseas expansion with an immediate focus on Australia and the Middle East

  • Investing in expanding West Elm and Pottery Barn

  • Expanding its e-commerce facilities and direct-to-consumer (DtC) offerings in general

  • Supply chain investments in order to drive multi-channel sales and margin expansion

  • Continue to offer differentiated products in order to remain competitively relevant against online competition

One thing that is clear from these expansion plans is that all these measures are integrated into one coherent plan. Williams-Sonoma is one of the most integrated multi-channel distributors in the U.S., and as it expands internationally that approach is being taken there as well.

The Australian expansion is working very well so far. Management describes itself as being "literally overwhelmed" by the response rates in its retail stores and e-commerce sites. It is currently planning on opening a new West Elm store in Melbourne, Australia, and moving in to London as well. Of course, the company needs these launches to go well because it needs to counteract the effects of short-term margin contraction that occur when investing in new sites. I would read the new store plans as a marker that the expansion plans are going well.

Moreover, the investments in e-commerce and multi-channel sales efforts are also working well. For example, the company managed to achieve a credible 1.9% growth with the core Williams-Sonoma brand in comparable-brand revenues. The brand hasn’t been growing in a while and it’s not a big part of the expansion programs as a result, but the improvements were cited as a consequence of more efficient e-marketing activities. To put this into context, total company revenues grew 8.6%, with debt to cash up 11.9% (including high-teen growth in e-commerce), while retail channel growth was only up 5.8%.

Interestingly, the company is seeing strong demand from online purchasers who wish to pick up products in-store. This apes the strategy of Pier 1 Imports , which has invested significantly in ensuring that its customers can engage in in-store pickups.

The company's key growth brands West Elm and Pottery Barn recorded double-digit and high-single-digit increases in comparable-brand revenues, respectively. Moreover, the company can expect more growth to come because new home purchases tend to spur home furnishings purchases. This is something to look out for because thus far we haven’t seen large increases in new home purchases in this recovery. What we have seen, however, has contributed to earnings upgrades at home improvement stores like Home Depot and Lowe’s Companies.

What the industry is saying

In general, there have been a strong set of earnings for the home furnishings sector and it has momentum going into the second half of 2013. What makes the sector interesting is that a number of retailers within it have some good internal drivers to go along with positive end demand.

For example, Restoration Hardware  is engaging in a growth strategy which involves rolling out new full-line stores. The idea is to try and put more of its product offering on display in showrooms. The existing full-line galleries are exceeding expectations, and the company recently upgraded its revenue and earnings forecasts. In addition, the company is seeking to generate revenue and margin expansion through expanding into categories like art and objects of curiosity.

Like Williams-Sonoma, Pier 1 Imports is also aggressively engaging in developing a multi-channel approach to retailing. Its plan is to invest in point-of-sale in-store systems that will help to drive e-commerce sales in future. I noted that the Wiliams-Sonoma’s management cited how strong the growth in revenues was from online customers who wanted to pick up good from the store; this has actually been a key part of Pier 1’s strategy, and the fact that a fellow home furnishings company is saying the same thing suggests it is following the right path.

Where next for Williams Sonoma?

Having previously looked at the company and concluded that its stock looks fairly valued at 20 times earnings, I now find myself saying the same thing! Of course, the stock has gone up from around $50 to mid $50’s (as I write this) but I would argue this is largely a consequence of the upgrade to its forecasts that was contained in its recent earnings results. And therein lies the rub. The company is performing very well, but much of this is already considered in the price and investors seem to be relying on earnings upgrades in order to take the stock higher.

It’s not a stock I would be chasing right now but it is well worth a look if we see a dip in the markets because it does have good prospects and the management is executing very well with its multi-channel approach.