Shares in bargain box Reject Shop Ltd (ASX: TRS) plunged 14% to $12.85 at the time of writing after the company released its annual results.

Here’s what happened:

  • Revenues rose 6% to $800 million
  • Net Profit After Tax rose 20% to $17 million
  • Earnings per share rose 20% to 59 cents per share
  • Dividends per share up 47% to 44 cents per share
  • Comparable store sales growth of 3%, up from -0.8% in previous year
  • Strong cash flows and incremental operational improvements, plus opening of 14 new stores and closure of 6 underperforming stores
  • Outlook for 13-15 new stores to be added this year, transition to new distribution centre, ongoing focus on execution
  • Guidance for ‘improved’ level of profit in the first half of 2017

So What?

There was something the market didn’t like about today’s results and if I had to take a guess I’d say it was the lack of concrete guidance to go alongside the company’s goals of ‘improving’ in 2017. My second and third guesses would be concerns over competition – with management reporting the big supermarkets at times discount to compete directly with Reject Shop. The other factor is the soft South Australian and Western Australian economies.

Concerns aside, Reject Shop’s performance was a great turnaround from the mediocrity of last year, led by both an increase in the number of transactions as well as the size of customer baskets. Development of methods to measure productivity and improve it are likely to pay off given the low-margin nature of Reject Shop’s business, although some investments such as the new distribution centre won’t pay off until 2018.

Now What?

Reject Shop’s return to form this year despite unnerving comments of increasing competition – from the big supermarkets no less – suggest that management’s strategy is working. With such tiny margins, Reject Shop’s future success is dependent on its ability to grow revenue, and here new store openings as well as an optimisation of its supply chain will play an important role.

Profit margins remain vulnerable to the weaker Australian dollar and, although management states its hedging project will limit the impact in 2017 this is something that should not be overlooked for the long term. Unfortunately, predicting currency movements over a 12-month period is a tough gig.

Although a respectable performance from Reject Shop today, investors should be aware of the risks facing the business and at today’s prices of 21 times earnings, I’m not a buyer of Reject Shop.

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Motley Fool contributor Sean O'Neill has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.