Resilient pet food-to-vet services specialist is gaining market share while navigating retail sector headwinds

One of Shares’ stock picks for 2022, pet care business Pets at Home (PETS) proved a Covid winner as the retailer profited from the pandemic-induced pet ownership boom.

But the shares have fallen sharply in 2022 on fears, as yet unfounded, that the Covid tailwind will abate and with Pets at Home tarred by the broader sector brush as investors fret over the impact of a consumer downturn on retail earnings.

Though the market is worried about the impact of a consumer downturn on retail spending, Shares believes Pets at Home is among the sector’s most resilient operators. We continue to see the shares as worth buying and holding for the long term and see year-to-date weakness as an opportunity to add to positions.

CHANGE AT THE TOP

A CEO handover from the well-regarded Peter Pritchard to former Sky chief customer officer Lyssa McGowan has added a little uncertainty into the mix. However, the data savvy McGowan brings a proven track record at Sky and data skills to the business, where experienced retail executive Mike Iddon brings stability in his role as finance director.

Full year results (25 May) from outgoing boss Pritchard triggered a relief rally in the stock as Pets at Home bounded in with record sales, profits and cash flow. The specialist retailer delivered a better than expected 65.3% surge in underlying pre-tax profit to £144.7 million which confirmed pet lovers remain happy to splash the cash on their beloved tabby, poodle, rabbit or reptile.

In fact, total revenue grew by 15.3% to almost £1.32 billion in the year to March 2022 amid continued momentum across the business; the FTSE 250 constituent generated like-for-like growth in the retail and vet divisions of 15.8% and 17.1% respectively.

Drawing confidence from a debt-free balance sheet with £66 million net cash, the pet equipment-to-veterinary services seller raised the final dividend by 36% to 7.5p, giving a total dividend of 11.8p, up 48% year-on-year.

And in a sign of confidence in future cash flows, Pets at Home launched a buyback of up to £50 million over the next 12 months, a sensible move given the cash on the balance sheet and year-to-date sell-off which should support the share price in the months ahead.

WHY PETS AT HOME IS A WINNER

Many readers will already be familiar with Pets at Home, either as pet-owning customers or stock market watchers familiar with its growing strengths, but here’s a quick recap.

Pets at Home’s stated mission is ‘to make sure pets and their owners get the very best advice, products and care’. The company sells pet products ranging from food, toys and bedding, both online and from its 457 brick and mortar stores, many of which also have vet practices and grooming salons.

The £1.7 billion cap company also operates a UK leading small animal veterinary business, with 443 First Opinion practices located both in its stores and in standalone locations.

As broker Peel Hunt recently noted, cash-generative Pets at Home is a retailer ‘oozing confidence when others are not’, and for good reason. The leading UK pet care business is winning share in a resilient, structurally growing market, underpinned by the trends of premiumisation and humanisation.

Pet care spend has a long track record of defensive characteristics and while trading up to higher margin, premium products may slow as pet owners feel the pinch, in an inflationary environment Pets at Home should still be able to grow like-for-like sales at a healthy rates.

On results day, Iddon informed Shares that Pets at Home has many self-help levers to pull to navigate current inflationary pressures and the numbers man also highlighted the retailer’s ability to leverage intelligent data to acquire and keep customers and grow its ‘lifetime value opportunity’, essentially growing the spend of existing shoppers and grabbing a greater share of their wallets over the lifetime of their pets.

Increasing the amount existing members of its VIP loyalty scheme spend in store alone represents a significant growth opportunity, even before Pets a Home acquires any new customers.

Admittedly, Pets at Home faces competition from players ranging from major supermarkets and cheap online rivals to the likes of CVS (CVSG:AIM) in the veterinary space, yet the retailer has vowed to keep prices competitive in the face of industry-wide cost pressures to help customers feeling the squeeze of the cost-of-living crisis.

Peel Hunt also stressed that the Wainwright’s dog and cat food, fish tanks and live reptile food purveyor’s CRM (customer relationship management) skills represent a ‘clear competitive advantage’. According to the broker this has been demonstrated by the delivery of impressive numbers in terms of customer retention and increasing share of shoppers’ spend. McGowan ‘will hopefully bring some more magic to this team and to data management in general’, added the broker.



ANIMAL MAGIC

Though the market is worried about the impact of a consumer downturn on retail spending, Shares believes Pets at Home is among the sector’s most resilient operators.

At the results, Pets at Home expressed confidence that full year 2023 pre-tax profits will be in line with the analyst consensus at that time, of £151 million with a range of £146 million to £157 million. Including the impact of an accounting policy change, Pets at Home said it expects 2023 underlying pre-tax profit will be £131 million, up from last year’s £126.4 million.



In terms of current trading, Pets at Home said the pet care market remains ‘robust and in growth’, with registrations into its Puppy & Kitten club ‘continuing well ahead of pre-pandemic levels and growth in customer spend maintained across all categories and channels’.

Traffic is up both in stores and online and while vet sign-ups have slowed from their peak, they remain robust. Pets at Home is also confident the recruitment of a record number of new customers will accelerate future growth in market share. Pets at Home is also investing behind its capabilities with the aim of driving growth in like-for-like sales through share of wallet increases, as opposed to the new customer driven growth it profited from during the pandemic.

The company also looks resilient to a consumer downturn, as the pet population has grown significantly during the pandemic and Pets at Home has recruited many of them into its VIP club. Peel Hunt cited recent surveys showing that 90% of pet owners would find other things to cut back on rather than their pet’s expenditure.

WHAT ANALYSTS THINK

Shares concedes the outlook for retailers is uncertain and risks to weigh include the possibility that the cost of living crisis weighs on trading up to higher margin premium products. HSBC has also flagged the risk Pets at Home might need to provide greater funding and support to vet partners as a potential concern.

That said, HSBC also highlights the retailer’s structural growth, market leadership, high free cash flow yields and net cash. ‘We think it is wrong that Pets at Home has been caught up in the retail sell-off, it is just a very different demand profile to discretionary peers, more akin to staples, but with structural growth underpinning demand’, commented the bank.

Peel Hunt forecasts covering the financial years to March 2023 and 2024 are for adjusted pre-tax profit to rise from £126.4 million to £130 million and £145 million respectively, translating into earnings per share of 20.4p and 21.6p.

Based on these estimates, Pets at Home trades on a forward price-to-earnings multiple of 16.8 falling to 15.8, a significant discount to 2021’s PE ratio high of 39.4 implied by Stockopedia data.

In addition, the high-quality retailer offers an attractive dividend yield of between 4.1% to 4.6% based on the ordinary dividends of 14p and 15.8p the broker has pencilled in for the next two years.

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