AO World ups guidance in spite of weak revenue

AO World (AO.) raised its annual pre-tax profit guidance despite a big contraction in revenue in its interim results, as higher margins and the introduction of charges on all deliveries aided the electrical retailer’s outlook. 

Management bumped up its profit forecast from £28mn to a new range of £28mn-£33mn, after significant cost savings and the removal of unprofitable sales meant the bottom line pivoted to a profit this time around. Cost of sales and admin expenses were down by a combined 16 per cent as the company managed to tighten a variety of expense lines, including warehousing, staff, and office costs. 

This drove gross margin up 400-basis points to a record 23.5 per cent. Adjusted cash profits tripled to £27mn, with the margin rising from 1.6 per cent to 5.6 per cent. The better operating performance meant that cash generated from operations improved from a negative £8.8mn last year to a positive £27.9mn in the half.

There are differing views on the implications for the business of the extension of delivery charges. Shore Capital analysts concluded that margin progress has been made “at the expense of the customer value proposition”, but it could be argued that consumers willing to spend a significant amount buying a TV (for example) from the company will just cough up the delivery fee. Time will tell. 

Management now expects annual revenue to fall by a worse-than-expected 10 per cent against last year, with sales being impacted by weaker demand as well as the strategy of cutting out underperforming revenue streams. UK shoppers purchased 13 per cent less mobile phones with contracts in the period, the company noted, hitting its commission sales and driving a loss for its mobile business. 

The overall chunky revenue fall in the half highlighted that market share has weakened. Revenues fell at three out of five divisions, including a 14 per cent decline at the product division (which takes around three-quarters of revenue). Service and third-party logistics revenue grew, but this wasn’t much to write home about given their relatively small contribution to the overall revenue pie.

Peel Hunt analysts argued that, looking ahead, “with sustainable margins and free cash flow generation, there is potential for future buybacks”. 

The shares trade at 19 times forward consensus earnings, which looks fully valued given current trading and the mixed outlook. Management reiterated medium-term guidance of annual revenue growth of 10-20 per cent, with much work to be done in the meantime. Hold.

Last IC View: Hold, 80p, 05 Jul 2023