Thursday, February 14, 2008

Broker downgrades of Pumpkin Patch lack long term vision

Columbia Mall

Pumpkin Patch, a children's wear
company with more than 200 stores
in four countries, will open a
6,095-square- foot store at Columbia Mall,
in Baltimore, in the mall's lower level,
near Lord & Taylor, on March 25.
New collections, designed by an in-house
team, are introduced throughout the season.

Broker downgrades on Pumpkin Patch Ltd [PPL.NZX] sent the share price down 9% today, NZ.19c down to a multi year low of $1.97.

Broker ABN Amro has this to say:

... its forecasts for the company's first-half earnings, due out next week, this time by a whopping 19 per cent and down to $NZ12.6 million ($11 million).

Pumpkin Patch's problems centre on the poor prospects for its stores in Britain and the US - the latter no real surprise given the growing likelihood of a recession there. Its many Australian outlets are, by contrast, doing well, thanks to the hot economy, with earnings growth hitting 23 per cent.

However, says the ABN analyst Carolyn Holmes, that won't be enough to offset the declines abroad, which is why she has cut her target price for the NZ-listed shares from $NZ3.13 to $NZ2.53.

It is not clear from analyst Carolyn Holmes how she arrived at her downgrade or the reasons for them but I am going to take an educated stab at it.

Clearly the weak US dollar and stronger Kiwi is affecting repatriated profit back to New Zealand.

Nothing Pumpkin Patch management can do about that and not overly material to the day to day short/medium term running of the company. It is something that could get worse before it gets better.

"...poor prospects for its stores in Britain and the US...", well, I wouldn't go that far, clearly not as good as the long established New Zealand and Australian arms but the bulk of the US stores are trading profitably after a very short time opened and the UK unit has been trading profitably for a couple of years.

When establishing a new retail chain, initial loses are to be expected, due to set up costs and until economy of scale is reached and one would expect those stores that are already operating profitably to pick up margin wise once established for a longer period.

The time frame for analysis of a company by broking houses is notoriously short term and while short term indicators are of definite interest to gauge company health on a half year to 12 month basis, it is the long term prospects for a company that should be the primary interest to an investor. Especially when it is a growth company like Pumpkin Patch.

Directors of Pumpkin Patch commented on their business outlook and strategy when reporting the Full year NZ$27.6 Million 2007 profit last August, down from 28.5 million from 2006:

While interest, store opening costs and local market development costs would continue to have an impact on financial results in the short term the directors and management team were confident current strategies would the best long term financial outcomes...

Something I would concur with.

All listed companies with substantial overseas profit and revenues have been marked down over the last 6 months or so. Two other such notables are Fisher & Paykel Healthcare Ltd [FPH.NZX] and Fisher & Paykel Appliances [FPA.NZX]

Both of these companies are well run and Fisher Health has excellent long term prospects, but their market caps have taken a beating of late.

Pumpkin Patch is currently facing toughish times during a strong growth period but it isn't going to last. How long it will last is hard to say but things are not as bleak as some brokers might have you believe.

ABN Amro and other New Zealand brokers who downgraded Pumpkin Patch today all have shareholdings in the New Zealand Stock exchange and ABN recommended NZX as a "buy" today.

I wonder if they are short on Pumpkin Patch?

I own PPL shares in the Share Investor Portfolio

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