Over the past year, Nick Scali’s share price has risen by more than 50%, even as earnings per share fell by around 30%. This decline in earnings growth has been a consistent trend over the past five years. The share price appears to be supported by management’s focus on growth through acquisition, with the expectation that Nick Scali’s proven business model and strong margins can be applied to newly acquired enterprises.
This makes a qualitative deep dive essential: is the current share price growth sustainable, or is the valuation largely driven by optimism?
On the positive side, Nick Scali continues to generate margins superior to most furniture retailers, despite operating in a sector that requires significant retail floor space and warehouse infrastructure. Recent acquisitions, such as Plush-Think Sofas and UK-based Anglia Home Furnishings, remain within the company’s area of competence and extend its reach into new markets. These moves should support earnings over the medium term, as has been the case in recent years.
In Australia and New Zealand, the company benefits from strong brand recognition in the mid-to-premium furniture market, and there is still scope for further store rollouts. While margins and earnings per share have been under pressure for five years, cash flow remains solid. With more than $100 million in cash reserves, Nick Scali holds a healthy war chest.
Nonetheless, furniture is a discretionary category that is vulnerable to economic downturns and changing consumer tastes. Global supply chain issues, including container delays and rising freight costs, have posed challenges, while labour, property, and marketing expenses continue to climb. The company is also exposed to risks from global trade tensions. Expansion into the UK has faced early difficulties, compounded by a softer economic backdrop in that market.
Debt remains at manageable levels, with interest cover of just over six times. However, the business may now need to shift gears from acquisition-driven expansion to consolidation, ironing out logistical inefficiencies and restoring margins to historical highs.
Valuations are elevated but not excessive, suggesting a strong level of investor confidence in management’s strategy. Insiders appear to share this confidence, with reports of buying activity. Return on equity remains healthy at 22%, though it has fallen from about 50% only a few years ago.
Nick Scali remains a high-quality business with sound fundamentals and a clear growth strategy. The next phase may need to focus less on acquisitions and more on consolidation, ensuring that the efficiencies of the core Nick Scali model are embedded across recent purchases. If management can lift margins and ROE back towards historical levels, the business offers a long and profitable future for shareholders. However, continued acquisition activity at this stage could introduce unnecessary risk.
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