What you will Learn
-The share price forecast of Dixons Carphone
-Differences in market valuation vs. company’s fundamentals.
This electronics giant resulted in the merger of Dixons and Carphone Warehouse. Their core retail business is the largest multi-channel specialist electrical and telecommunications retailer in Europe.
With a combined sales of £10bn, it controls a large proportion of the UK electronic markets.
Results look good as H1 LFL is up 4%, helped by electricals LFL of 7%, but was dragged down by mobile LFL of 3%.
The reduction in net debt of £206m and free cash flow growing to £169m (£64m) is the result of favourable working capital and lower net capex spending.
The outlook for PBT ranges from £360m to £400m.
Two Interesting things about Dixons Carphone you didn’t know
Merger of “Equals”
This merger of equals created a £3.8bn company, but what you didn’t know is the nature of them coming together.
In order to make this a merger of equals, each company needs to stand out from the other.
For Dixons, they provide the bulk of group sales, but lack profit generation, net margin was less than 1.5% margin.
Making Dixons vulnerable to reporting a net loss.
So, which partner would balance Dixon’s lack of profitability?
That’s where Carphone Warehouse comes to play.
With Carphone, sales were £2.5bn and a net profit of £48m, a margin of 2%.
But combine together, it should benefit from the synergy effect (cutting staff and reducing two headquarters to one).
It took a while but it worked as the combined business reported higher net profits of £289m, a 3% margin. But profits are likely to be lower this year.
There was very little transaction value between these the two businesses, but somehow it magically created £1.8bn of goodwill when combined together.
Giving the total goodwill on Dixons Carphone’s balance sheet of £3.1bn.
So, realistically, Dixons Carphone should have shareholders’ equity of between £1.5bn and £1.6bn.
With retailers, the value of equity isn’t the most important as investors concentrate on profitability and placed less importance on Dixons Carphone’s net asset value.
But nonetheless, Goodwill takes up 40% of total assets.
Is there a probability that Goodwill gets impaired?
Dixons Carphone isn’t using the present value of future cash flow to assess goodwill impairment. Instead, they are using the growth rate in sales and costs over a five-year period and beyond.
The assumptions are:
Sales; – 2.6% to 2.7% compound growth for the next five years, and 2% sales growth beyond five years.
Costs; – 2.6% compound growth for the five-year period, and beyond that it is looking for 1.8% beyond five years.
However, investors need to keep in mind that management is willing to change their assumptions on sales and costs growth.
On a price to operating cash flow basis, Dixons Carphone is seeing low multiple of below five times on operating cash flow.
It is on a PER of 6.5 times multiple.
Final Thoughts: Dixons Carphone
Yes, Dixons Carphone is making £298m in cash flow and £169m in free cash flow, but as management said it resulted in favourable working capital (cash inflow of £120m vs. cash outflow of £20m) and lower net investing (£56m vs. £130m).
We shouldn’t neglect the fact that Profit before tax ranges from £360m to £400m, down from £489m achieved last year.
Let’s say full-year PBT comes in at £380m, it’s a decrease of 22% from last year.
Meanwhile, the share price dived from £3.10 to £1.77, a decrease of 42.9%.
Add in lower capex of £200m vs. £271m, then the share price is rather on the cheap side. At £2bn market capitalization, the company is trading at 6.82 times PER.
With these factors and a boost of iPhone X sales, Dixons Carphone share price would return to £2.50 in the next 12 months.
CALL TO ACTION
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The above analysis is based on my opinion and nobody else. It does not constitute professional investment advice. Data is correct on at the time of availability. I don’t hold the company’s shares unless stated.