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Why UBS downgraded Premier Investments Limited ahead of its profit results tomorrow

The share price of Premier Investments Limited (ASX: PMV) is bouncing back after yesterday’s sell-off as the apparel and stationery retailer prepares to hand in its full year profit results this week.

The stock jumped 0.7% to $19.34 in morning trade while the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) inched up 0.2%.

Premier Investments’ shares took a 2% plunge yesterday after UBS downgraded the stock even though the broker is expecting the retailer to post a solid FY18 tomorrow.

Normalised net profit is tipped to expand a respectable 8.1% to $119.5 million and full-year dividends are forecast to grow an impressive 17% to 62 cents a share, based on UBS’ estimates. That’s not bad given the structural headwinds hammering the sector and the growing popularity of offshore rivals like Zara and H&M.

What’s more, UBS’s survey of around 1,200 shoppers has found strong brand awareness among consumers of Premier Investments’ brands such as Just Jeans, Jay Jays and Peter Alexander; while its Smiggle stationery business is also growing strongly.

“The survey suggests some weakness in fashion spend in 1Q CY18, but recent ABS [Australian Bureau of Statistics] / shopping mall data and unlisted feedback suggests trends have improved since April,” said the broker.

“Industry feedback is highly supportive of Smiggle’s UK/Ireland stores, including its online sales. We believe ~1,000 Smiggle stores (~348 currently) is looking increasingly likely over the next decade should the brand launch a North American rollout (~300 stores) and extend its upcoming Netherlands/Belgium rollout to France/Germany/Spain.”

All this good news seems to contradict the broker’s decision to cut its recommendation on the stock to “neutral” from “buy” even as it lifted its price target by $3 to $20.30 per share.

The problem is valuation. Premier Investments has rallied 42% over the past year when the S&P/ASX 200 Cons Disc (Index:^AXDJ) (ASX:XDJ) index of discretionary retailers is up 16%.

Premier Investments is one of the best performing stocks in the sector with the likes of Super Retail Group Ltd (ASX: SUL) and JB Hi-Fi Limited (ASX: JBH) only managing to eke out gains of between 7% and 10% over the period.

The share price performance of outdoor apparel retailer Kathmandu Holdings Ltd (ASX: KMD) matches that of Premier Investments, but few would think it’s good value either.

Premier Investment’s stock is currently trading on a FY19 consensus price-earnings of 23 times, or nearly a 30% premium to the sector.

The stock may be looking fully valued on these metrics but I think the premium is justified given the company’s strong track record.

Its management team is rated as among the best in the business and few would argue with that. Depending on what the company reports tomorrow, there could be new reasons to buy the stock.

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Motley Fool contributor Brendon Lau owns shares of Premier Investments Limited. The Motley Fool Australia owns shares of and has recommended Premier Investments Limited. The Motley Fool Australia owns shares of Super Retail Group Limited. 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 Scott Phillips.

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