Buy into Headlam’s recovery

Headlam’s operations focus on supplying small trade customers, made up predominantly of independent retailers and flooring contractors. About two-thirds of sales come from the residential sector and one-third from commercial. 

This is high-volume and relatively low-margin work; the operating margin was about 6 per cent in 2019. It is also the type of business where size matters and Headlam dominates in the UK, which accounts for four-fifths of sales, and where its 2018 revenues were more than six times those of its closest competitor, Carpet & Flooring. The rest of its revenue comes from France, Switzerland and the Netherlands.

Aided by a bolt-on acquisition strategy, which has seen it buy 17 businesses since 2012, Headlam has built up a network of 23 large distribution centres, a host of smaller hubs and a sprawling transport network. This scale gives it significant buying power with its 190 global suppliers, creates operational efficiencies, and allows it to better serve its 70,000-plus customers. The diversity of the supply chain has also benefited it during lockdown and should also help protect operations in the event of a messy Brexit.

The completion of a giant, £26m, state-of-the-art warehouse in Ipswich in July now puts Headlam in a position to benefit further from its scale, at the same time as capital expenditure requirements drop off.

Its bolt-on acquisition strategy has created overlaps and an operational improvement plan is expected to make annual savings of £3.5m by 2022 by streamlining fleet, while consolidating six sites into the new distribution centre. Meanwhile, it plans to boost sales with investment in e-commerce and the roll-out of an improved national trade counter service offering improved ranges and easler collections.

While there could be much to look forward to, the past six months are something most would prefer to forget. Coronavirus knocked first-half revenue by 31 per cent, a £16m pre-tax profit in 2019 turned into a £24m loss, and the dividend was pulled. The loss included a £21m writedown to all goodwill associated with Headlam’s 2017 acquisition of ceramic tiles distributor Domus. Unlike the small-volume, high-frequency orders that characterise most of Headlam's trading, Domus is exposed to large commercial projects, which were hit hard by delays. 

But Domus is being restructured and there are encouraging signs of a trading recovery elsewhere. July and August orders were close to last year’s level, which has prompted a round of broker forecast upgrades. 

Importantly, daily net debt peaked during the six months at about £50m compared with facilities of £110m and finished June at £22.4m. This looks reassuring, and over the cycle Headlam has a good track record of cash generation.