Goldman Sachs bullish on Burberry

Burberry shares have been largely rangebound since the middle of 2013 at 1,400-1,600p, but Thursday's half-year results could prove the catalyst required for a breakout. Strip out a foreign exchange hit and underlying revenue jumped by 14%, driving adjusted pre-tax profit up by 6% to £152 million. Net cash was up by £100 million and the dividend rises 10%. Not bad.

Clearly there's uncertainty about the global economy, but sales grew by double-digits in all regions and management is taking steps to mitigate risks elsewhere. And there has been progress: Burberry has relaunched its heritage products, launched My Burberry perfume, opened nine mainline stores, including six in airports, and upgraded the mobile platform.

Goldman Sachs remains a fan:

While the reported operating profit was a slight miss to Bloomberg consensus, we note that excluding FX and one-offs, the underlying margin has improved. This supports our view of resilient core margins despite continued investments in Digital, Beauty & Japan which we view positively. The 2015E P/E is in line with the sector, and yet we expect the company to deliver 13% c.FX revenue growth per annum over FY14-17 vs sector 7% and both margin and ROC (return on capital) expansion of 150 bp vs sector averages of 90 bp and 20 bp.

The broker reckons the City is missing a trick with Burberry and that there is a clear catalyst here:

We believe the market continues to underestimate Burberry's potential for sustainable growth and margin expansion as it reaps the benefits of early investments in Digital, Beauty and Japan giving an enviable trifecta of growth opportunities in channel, category and geography; the new brand strategy is supportive of our thesis. We are also encouraged by the more explicit focus on efficiency and productivity as we expect the adj. op. margin to bottom in FY15 and expect c.50 bp margin improvement pa going forward (mgmt has mentioned 50-100 bp pa) driven by a better cost structure and operating leverage.

We also expect return on capital to expand c.50 bp pa helped by better turns and margins. Our 2015-17 EBIT estimates are 2%/6%/11% ahead of IBES consensus; we believe Burberry's long-term opportunity is still underestimated and thus expect earnings upgrades and a further re-rating of the shares. Burberry reports 3Q IMS in Jan 2015.

Goldman has pencilled in operating profit of £448 million for the year to March 2015, giving earnings per share of 75.2p, marginally ahead of last year. But that jumped to £509 million and 85.9p in 2016. That puts the shares on a forward PE ratio of 20.6, falling to a more modest 18 the year after.

Burberry shares currently trade at 1,552p, but Goldman still thinks they're worth 2,128p based 50% on 12.3x lease adjusted enterprise value to cash profits ratio and a 50% M&A weight.

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