Shares in online fashion retailer ASOS (LSE: ASC) are up 7% thus far today following the release of the company’s Christmas trading statement. Retail sales increased by 15% in the six weeks to 9 January, with the UK continuing to be a source of excellent growth for the company and posting sales growth of 27% during the period.
Encouragingly, international sales were also positive and registered an improved 5% growth versus the same period last year, although they now represent 51% of total sales (versus 56% last year). This is reflective of the challenges faced by ASOS in its international division, with logistical issues not aiding its performance outside of the UK. It also, however, shows just how strong the company’s performance in the UK has been, with it continuing to deliver excellent growth despite a competitive marketplace in recent months.
Of course, the disappointing feature of the update is ASOS’s gross margins, which are 2% lower than they were last year. This, though, is in line with expectations and reflects the company’s planned investment in pricing – especially in its international division. Even so, ASOS has retained its previous guidance for full year earnings, which is a major reason why its shares are performing so well today.
Strategy
The company’s adoption of zonal pricing and its investment in its IT platform and distribution capability appear to be bearing fruit. For example, zonal pricing allows it to offer locally competitive pricing and promotional activity in certain markets, and also to sell specific brands that are normally restricted in such markets. As such, the company appears to be making the right moves to boost its top line performance, with its investment in price also providing a boost to sales in the short run, too.
Looking Ahead
As mentioned, ASOS expects to meet its full year guidance and in doing so it would mean a fall of 6% in earnings versus last year. This would be the third year in a row of profit declines which, although disappointing, is not wholly unexpected for a company that is attempting to roll out its business model across multiple regions in a relatively short space of time.
Looking ahead to next year, ASOS is forecast to post earnings growth of 28% which, although impressive, appears to be priced in. For instance, ASOS has a price to earnings growth (PEG) ratio of 1.5, which does not exactly scream ‘growth at a reasonable price’.
Certainly, the company appears to be doing the right things in terms of investing in pricing and investing in its distribution capabilities. As a result, it does seem to have a bright future. However, on a risk/reward basis, there appears to be significant downside risk due to its rich valuation and, as a result, it may be susceptible to share price weakness should forecasts be downgraded even by a relatively small amount. As such, ASOS does not appear to be worth buying right now to me, although it’s certainly a stock for your watch list.
