I have watched Super Retail Group Ltd (ASX: SUL) closely for the past two years but I have finally taken it off my watch list.
I'm an investor who is looking for good value companies with above average growth potential. Although Super Retail Group used to fit into this category several years ago, its more recent history has led me to believe this may no longer be the case.
Here are my five reasons why I can't get excited about Super Retail Group:
1. Slowing sales growth – Super Retail's most recent half-year result showed group sales increased by only 5.7%. Although its Sports and Auto divisions performed strongly, the leisure division was a drag on earnings. A more recent trading update confirmed that the poor performance in this division is continuing with like-for-like sales declining by 1.3%. Although the company is restructuring this part of the business, total group sales will be subdued until historical growth rates are re-established.
2. Falling Australian dollar – A depreciating dollar may be good for exporters but the opposite is true for importers like Super Retail. The group relies on importing a number of its auto products and the lower dollar makes these products more expensive. Although the company has been able to manage the risk so far, it still remains a challenge for management as the dollar could potentially have further to fall.
3. Weak Consumer Sentiment – As the chart below shows, consumer sentiment has been trending downwards for the past two years. Super Retail operates in the discretionary retail sector and this is usually the first sector to be impacted when consumers become cautious.
Source: Westpac–Melbourne Institute Index of Consumer Sentiment
The weak trend is expected to continue for some time as economic activity in some parts of Australia begins to slow down. The mining sector is expected to contract significantly in light of falling commodity prices and this will have an impact on Super Retail's operations in Western Australia and Queensland especially.
4. Decreasing Return on Capital – The chart below should be a warning sign for all investors and is a major reason why I can't get excited about Super Retail.
It's no coincidence that Super Retail's share price mirrors the chart above. When the return on capital was increasing, so was the share price and vice versa. Until the return on capital begins to trend upwards, investors should be concerned about the long-term returns that the group can create.
5. Valuation – The shares are currently trading on a price-to-earnings ratio of around 18. This is by no means cheap and considering sales growth is expected to be moderate at best, I think there are more attractive opportunities elsewhere. Although the 4% dividend yield looks attractive, the potential for capital gains appears limited at the current share price.
Foolish takeaway
I have no doubt that Super Retail will be a strong performer in the years to come, but the short-term outlook is not looking positive. Considering there are more attractive opportunities available at the moment, I will wait until the share price drops to $7.50 before getting excited about the company.
If you want a company to get excited about now then look no further!
