COMMENT: How Bad A Shape Is Dick Smith Really In?

One major retailer said “Even now it’s too late to get current and new model stock in time for the peak Xmas period, I suspect there is going to be a lot of old stock on their shelves running into Xmas”.

Some vendors have complained of late payments with questions
being raised about cash flow at the mass retailer. Several vendors that
ChannelNews has spoken to said that they rejected overtures from Dick Smith
management to stump large amounts of upfront cash for marketing before the
close of the June 2015 financial year.

One major vendor was asked to invest $1.6M upfront, another
vendor rejected the Dick Smith offer after the mass retailer failed to deliver
any sales forecasts for his product.   

Three weeks ago Neil Merola Marketing Manager at Dick Smith
told ChannelNews that the reason that the Company had stock and cash flow
problems was because they had “ordered stock in when the dollar was
stronger” than the current $0.72 to the US dollar.

Yesterday Dick Smith shocked the market today after
confessing that it expects financial year (FY) 2016’s profits to be $5 million
to $8 million below previous guidance for full year profit between $45 million
to $48 million.

Today their share value fell a further 4.6% as investors dumped the retailers stock. 

Financial Services Company Motley Fool said that when using
the mid-point of the guidance adjustments equates to a 14 per cent profit
downgrade blamed on weak October sales which may be an ominous omen travelling
into the all-important Christmas shopping season.

The big downgrade is a blow to the credibility of management
with Motley Fool claiming that the market is mad – marking down the stock down
27%.

It was just over two months ago that the company issued
previous guidance and blamed falling margins and a weak few weeks in October
“This not going to wash with investors already nervous about the
retailer’s outlook” said Motley Fool.

Motley Fool now raises the question as to whether Dick Smith
is too cheap to ignore?

Prior to listing in late 2013, Dick Smith was part owned by
Anchorage Capital an Australian-based turnaround and special situations private
equity firm that sold its holdings for $2.20 per share.

At today’s knocked-down price of 92 cents Dick Smith is
either a screaming bargain or falling knife depending on whether it can turn
around its fortunes as a public company.

The market appears to think not given it’s now valuing the
business at around $300 million, on just 7 to 8x Dick Smith’s forecast profit
of at least $40 million for the year ahead.

Assuming Dick Smith meets the bottom end of its new guidance
of at least $40 million then profit will only be marginally lower than FY15’s
profit of $43.1 million, which suggests small improvements would lead to a
return to a growth.

The business also now offers a huge trailing yield around
13%, which is likely to decline marginally, but still be attractive in the year
ahead at whatever the adjusted level.

However, turnarounds seldom turn and the fact that margins
and profits are falling despite same store sales being up 1.3% in Q1 2016 is
another worrying sign as to the underlying health of the business.

The business is likely feeling competitive heat from rivals
JB Hi-Fi and Harvey Norman Holdings and yesterday Harvey Norman posted a strong
quarterly sales update which suggests it’s winning the battle in the electronic
goods space.