Investors beware: Next plc isn’t out of the woods yet

When expectations are low, anything remotely positive tends to be cherished. Such appears to be the case with Next (LSE: NXT). While many holders will be cheering this morning’s 10% rise following a less-than-dreadful trading update, I think a full reversal in sentiment towards the company is still some way off.

Full-price sales over the quarter to 29 July were up 0.7% on last year with improvements seen in both the Retail and Directory divisions. Numbers for the latter were particularly encouraging with sales rising by 11.4%. As a result, Next slightly narrowed its sales guidance for the full year to -3% to +0.5%. Full-year pre-tax profit expectations were unchanged at £680m to £740m.  

Now for the less positive news

Despite enjoying better than expected trading in June and July, the company stated its belief that most of the increase in full-price sales could be attributed to the recent warm weather and fewer markdowns in its end-of-season sale. Next also stated that it remained “cautious” on the outlook for the rest of the financial year with H2 full-price sales expected to be down 1.2% (in line with that achieved in H1).  Given this, is today’s share price surge truly justified? 

To be sure, Next will still hold appeal for certain investors. Value hunters will surely be attracted to the current valuation of just 10 times forecast earnings. Those searching for income will also be reassured by confirmation that it intends to continue distributing surplus cash to shareholders in the form of special dividends — the latest 45p payout coming in November. 

Nevertheless, I’m still not tempted. While Next does have form in under-promising and over-delivering, I’m more inclined to look for companies that don’t appear to be treading water. While Directory sales were impressive, the company’s retail arm continues to struggle with sales down 7.7% so far this year. With the aforementioned pre-tax profit forecasts still significantly below those achieved in 2016 and competition more intense than ever, I’m beginning to wonder if shares in Next will continue to slide once the initial jubilation has passed. 

Riding the boom

While not offering quite such a large dividend, I think FTSE 100 peer Mondi (LSE: MNDI) is an excellent alternative to Next given the explosion in online retailing and huge demand for packaging.

Over the first six months of 2017, the company grew revenue by 8% compared to the same period in 2016. While underlying operating profit of €497m was a bit lower than that achieved in the same period in 2016, the company attributed this to higher costs, lower forestry fair value gain in South Africa, the impact of shutting its mills for maintenance, and higher depreciation and amortisation charges.

On an operational front, Mondi reported “good progress” in delivering on its major capital investment projects, which include a “world-class facility” in Poland. The integration of recent acquisitions also appears on track.

Looking ahead, CEO Peter Oswald stated that the market “remains broadly positive“, even if the performance in H2 will continue to be impacted by planned maintenance work. Indeed, following strong demand for packing paper and corrugated packaging in H1, the full effect of price increases across a number of paper grades is now expected.

Given the company’s prospects, improving operating margins and consistently decent returns on capital, I think Mondi’s shares — on 14 times earnings — look good value.

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Paul Summers has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.