The Hut Group rides direct-to-consumer wave

Christmas decorations could still be seen in shop windows last week, reflecting months of forced closure under tough Covid-19 restrictions. And while non-essential businesses in England were allowed to pull up the shutters on 12 April, for many, the damage has already been done. Thousands of retail jobs have been lost during the pandemic as employers battle with squeezed revenues and drained coffers.

Yet the crisis has not hit every retailer with the same gusto. Those with international reach, product diversity and significant online scale have managed to stomach coronavirus far better than smaller peers which are more reliant on physical, in-person trading. FTSE 100 giant Next (NXT: Buy, 7,920p, 7 Apr) is a case in point.

The pandemic has also lent itself to an acceleration in direct-to-consumer (DTC) engagement. With more people shopping online under ‘stay at home’ mandates, brands have taken it upon themselves to up the ante on cutting out third-party middlemen – striving for higher margins and better customer data. Leading sportswear brands including Nike (US:NKE) have pledged to increase their DTC sales over time, in a move which could have significant implications for their distribution networks.

But for The Hut Group (THG), the dawn of DTC is only good news. The company, whose IPO last September was the biggest in the UK for five years, comprises a proprietary technology platform which takes brands directly to their customers in countries around the world.

THG sells its own beauty and nutrition brands along with third-party names via its ‘Ingenuity’ e-commerce model. Its stated purpose is to “reinvent how brands digitally connect to consumers globally”.

Chief executive Matthew Moulding said 2020 had been “monumental” for THG as the company posted its first set of annual numbers under public ownership. “We are enthused by the accelerated shift to digital channels and are passionate about delivering on that opportunity”, he added.

In a far cry from the devastation wreaked across large parts of the retail world last year, THG enjoyed growth across all of its business-lines and geographies. A shift onto digital platforms as the high-street remained off-limits “has undoubtedly accelerated THG's revenue growth”, it said.

Sales climbed more than two-fifths to £1.6bn for the 12 months ending 31 December, buoyed by a rise of more than a third in ‘THG Nutrition’ to £562m and a 57 per cent increase in THG beauty revenues to £752m.

The former division owns the world’s largest sports nutrition brand, Myprotein. The latter division combines THG’s own beauty brands with the provision of a direct route to market for more than 1,000 beauty brands via a portfolio of websites including Lookfantastic and subscription box brand Glossybox.

In turn, THG’s gross margin rose 0.4 percentage points to 45.2 per cent, standing in stark contrast to the beleaguered retailers that have suffered more acutely from virus containment measures.

Share awards drive losses

However, those improvements at THG failed to translate into earnings growth further down the P&L. Rather, operating losses came in at £482m, dramatically wider than losses of £11.8m in 2019. THG attributed its decline into the red to a variety of “non-recurring and non-cash events”. A small proportion (£14.3m) of the loss was linked to IPO fees, while £39.2m stemmed from Covid-19 expenses. More than two-thirds of costs pertained to THG employee share awards.

THG’s share structure made waves around the time of its float for a different reason. Because Moulding has a ‘golden share’ that allows him to block shareholder resolutions, the group had to opt for a standard listing – preventing it from joining the blue-chip FTSE 100 index despite its multi-billion pound market value.

London’s rules around founder shares have been seen as a buffer to high-profile tech listings in the UK, rendering the LSE less tech and start-up friendly than other exchanges. To that end, Chancellor Rishi Sunak launched the UK Listings Review in November, commissioning Lord Hill of Oareford to head up the project.

Last month, Lord Hill released his findings along with various measures aimed at liberalising the current criteria – including a recommendation to allow dual class share structures in the premium listing segment of the London bourse.

But concerns remain about the risks of giving founders and board-members too much control, with potentially detrimental impacts on minority shareholders who have little decision-making capacity in the businesses they part-own. Deliveroo’s (ROO) time-limited dual-class share structure was one of the concerns listed by fund managers ahead of the food delivery group’s dismal float earlier in April.

‘Good confidence” in behavioural trends

The first quarter of 2021 has started well for THG, with revenues up more than a half to £447m – well ahead of management’s expectations. The group pointed to “stable margins” in line with guidance and noted that its THG Ingenuity platform had been a star performer with growth of more than 190 per cent, up from 160 per cent in 2020.

Ingenuity also scored new client wins during the three months to 31 March, including Pentland Brands – the family-controlled investment company which owns a majority stake in retailer JD Sports Fashion (JD.). Notably, family-run businesses have historically performed well in times of stress – meaning the brands in Pentland’s portfolio could be well-positioned to capitalise on its e-commerce partnership with THG.

Looking ahead, THG said it has “good confidence” in the continuation of its customers’ behaviour in 2021. Some will argue that the resumption of normal shopping will halt the spike in digital sales observed in recent months – but THG believes the pattern is more entrenched. “Whilst the pandemic is a one-off crisis, the underlying drivers supporting the continued shift and retention of online consumer retail spend have not changed for the past 15 years”, it said.

Guidance unchanged

Yet despite that buoyant tone, THG stopped short of raising its guidance. The group’s upgraded revenue and margin outlook given in mid-January remains unchanged, it said, giving a range of 30-35 per cent revenue growth and a steady cash profit margin. For reference, that margin stood at 9.3 per cent in 2020.

Still, some facets of THG’s forward-planning, and associated investment, have been revised. At the time of its float, the group suggested it would spend £50m-150m each year on acquisitions. However, given the opportunities thrown up by the current economic backdrop, THG has lifted its anticipated budget to around £250m per annum.

Already THG has committed £400m to deals since its IPO, including the purchase of beauty business Dermstore in the US. Following that transaction, which completed in February, America will constitute more than a fifth of group sales.

Bullish brokerage Jefferies puts adjusted earnings per share at 16.4p for 2021, rising to 44.7p in 2022, giving a price-earnings (PE) multiple of 40 times for the former period. Awaiting a longer Plc track record, we're neutral. Hold.