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Boohoo moved into the purview of Matt Earl’s Shadowfall on Tuesday. For anyone familiar with the company his accusations will all have a familiar ring: such as the opaque presentation of free cashflow and the large sums falling sideways to the son of the chairman.
Media (ourselves included) have flagged these areas of concern many times over the years so the market response wasn’t too dramatic even before Boohoo’s quite long “strongly refutes” statement this morning. Being a Boohoo shareholder always demanded a forgiving approach around financial metrics and inter-company relationships.
Zeus Capital, Boohoo’s Nomad, weighs in that Shadowfall’s arguments “are flawed and do not disclose any new or unexpected information about the Group”:
In our view the short-selling note does not disclose any new or unexpected information. Arguments made against the Group fully consolidating the PLT entity appear to challenge prescribed consolidation accounting standards (IFRS 10) whilst assertions around the apparently misleading presentation of FCF fails to acknowledge that this is an adjusted performance measure open to varying interpretations, with the Group’s definition clearly presented and reconciled to net cash flows within its audited accounts. The inference that PLT profitability is being overstated is firmly refuted by the Group. We have previously noted the underlying profitability of the Group’s established core brands runs well ahead of Group margin, reflecting investment made in building up new brands and we would also note the high level of audit scrutiny that intercompany transactions are subject to.
PLT Option: The PLT non-controlling interest and the terms of the option for the Group to acquire the remaining 34% from 28 February 2022 were disclosed at the time of the PLT acquisition and in the Group’s subsequent financial reports. The valuation of such a transaction will be undertaken independently by a big four accountancy firm and will be subject to a minority discount of up to 30%. The treatment of the reported NCI did change in the most recent set of accounts following audit review, but we would note that Group adjusted EPS calculation continues to remove 100% of the 34% of PLTs adjusted PAT attributable to the NCI, in line with the previously reported and more prudent treatment.
A winning model: The unprecedented challenges faced by the retail sector since the onset of the Coronavirus crisis has, in our opinion fundamentally and permanently shifted the retail landscape, accelerating the move from bricks and mortar retailing to e-commerce. There is no doubt in our mind that the Boohoo Group has one of, if not the strongest, e-commerce models with which to capitalise on this change in behaviour and we have no doubt that net proceeds of £197.7m raised in the recent placing will be deployed to take advantage of attractive M&A opportunities as they emerge in the coming months.
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Valuation: The shares have come under pressure on the back of what we believe to be unfounded allegations over the integrity of its financial disclosures and Group strategy, we believe current levels offer an attractive entry point to investors.
Peel Hunt’s not that fussed either, though it doesn’t see much to strongly refute:
Boohoo doesn’t put tax in its definition of FCF. That’s true, but we do and we’re sure all other investors/brokers do too. We must confess to not noticing this as we run our own template with the detailed disclosures published by the company.
The entire FCF of PLT is included in the cash flow statement and accounts as though it were 100% owned – also true and consistent with the concept of consolidated accounts. PLT is only 66%-owned by boohoo, but the full revenues, expenses and cash flows are consolidated, with the 34% minority interest taken out as a pre-earnings adjustment, in keeping with accounting conventions.
Boohoo may distribute the entire distributable profits of PLT as a dividend. True, but unlikely. The option to buy the remaining 34% of PLT is up in February 2022. If boohoo decides not to acquire this, then PLT’s distributable profits will be paid out as a dividend to all shareholders on a pro rata basis.
The recent fundraise could be used to buy the PLT minority. Again, technically true. We asked the question at the time, but we think management clearly intends to use the finds for new brand acquisitions, but there are no restrictive covenants on the use of the cash (let’s not forget boohoo’s last raise for a ‘super warehouse’, which will never be built).
Accounting for the minority changed in the latest accounts. It did: the auditors wanted to take a cumulative run of 20% of the MI being taken in steps over five years (20% Year 1, 40% Year 2, 60% Year 3, etc). Still, it doesn’t help the understanding of the accounts and neither us nor the company look at it in this way (we take 100% of the 34% MI as always).
Cost allocation. Questioning whether PLT is wearing its full cost base and carrying its fair share of group costs. PLT’s contribution margin is published (profits after delivery costs), but clearly at the point of acquisition there would have to be a fair/disclosable basis for PLT’s standalone accounts, including an allocation of group overheads and central costs (which aren’t published).
Next buyout target is Isawitfirst.com, owned by the chairman’s brother. This doesn’t feel like a meaningful target to us. We’re expecting a sizeable US or European brand acquisition rather than a local ‘me-too’ business, of which there is no shortage. While there are not many barriers to entry, very few grow to the scale and relevance achieved by Fashion Nova or boohoo.
Conclusion, we’re still buyers. The key thrust of this note is that boohoo will need to act on the PLT minority in 2022, either acquiring it at market value, less minority discount, or by paying out the distributable reserves to
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Conclusion, we’re still buyers. The key thrust of this note is that boohoo will need to act on the PLT minority in 2022, either acquiring it at market value, less minority discount, or by paying out the distributable reserves to date. That’s entirely true and not new information; clearly, the valuation will be key here, as will the growth profile and performance of the PLT brand. The accounting for PLT is in keeping with accounting convention and offers no surprises or concerns. That taxation isn’t included with boohoo’s FCF definition isn’t good practice, although we didn’t notice as we have our own template with tax within FCF, as we’re sure most investors/brokers will. To suggest that boohoo might need to pay out £77m+ in dividends for PLT doesn’t seem unreasonable. This is no ‘shock & awe’ note in the sense that these are all known factors and there are no accounting concerns raised here either, but it will bring PLT back up the agenda in terms of how investors should expect any transaction to be valued and funded.