Despite sales slump, Kogan.com soars on promise of return to historical operating margins in June half

Kogan.com (ASX: KGN) was up 11% an hour out from the open despite revealing that the long-awaited turning point in top-line sales that eluded the online retailer in the first quarter update is still some way off.

With gross sales for the first four months of FY23 down -38.2% [from July to the end of October] to $268m compared with the previous period, investors' expectations of a better than earnings (EBITDA) breakeven for the remainder of FY23 are now looking ambitious.

Adjusted earnings (EBITDA) were down -104% in the first four months of 2022-23 resulting in the company making a small loss of $500,000.

After experiencing a bottom-line loss of -$36m in 2021-22 versus a $3.8m profit a year earlier, investors were desperate to pick up on any good news at the AGM today.

Regular operating rhythm

CEO and founder Ruslan Kogan told investors that trading in FY23 year-to-date, reflected a period of subdued sales activity in e-commerce, while also cycling strong results in the previous covid year.

What’s all too clear within today’s update is the reversal of the pandemic conditions that turbocharged the uptake of e-commerce by five years in half a year following store closures during lockdowns in 2020.

As a pure-play e-commerce company, Kogan was a key beneficiary of the 55% rise in online spending in 2020 alone.

However, within today’s AGM update Kogan attempted to reassure shareholders that businesses have returned to their “regular operating rhythm, with continued growth being achieved in Kogan Marketplace, Mighty Ape, Kogan First, and key Verticals including Kogan Mobile Australia”.

Margins and operating costs

Looking beyond today’s uninspiring sales update, investors clearly turned their attention to both improving operating costs and the promise of a pending return to the company’s historic growth trajectory and profitability.

Once the company rids itself of the excess inventory in warehouses that accumulated up last year as a hedge against supply chain disruptions, management expects to return to delivering historical operating margins again in the June half.

“We are now in a phase of consolidation, with the aim of returning to the levels of profitability and operating leverage that we previously delivered in the years between our IPO and the earlier stage of the pandemic,” Kogan noted.

Cost-cutting, including a suspension of its in-house Kogan Delivery Services due to rising fuel costs, removal of poor-selling categories taking up costly warehouse space, plus a reduction in inventory saw the company end the July to October period with a net cash position of $20.1m.

“We look to the second half of FY23 with confidence as the Kogan Group returns to being an agile, inventory-light business with strong operating margins,” Kogan noted.

Black Friday

Kogan also reminded investors that the strength or weakness of tomorrow’s Black Friday will provide valuable clues as to how quickly households slow down their spending as a result of rate hikes.

“Black Friday is huge, we would expect over 500 per cent increase over our average days, for Black Friday," Ruslan told the ABC yesterday.

The company expects to sell 35,000 items, turning over about $2m.

What brokers think

Kogan's share price is down -61% in one year but has been on an insipid uptrend since late July.

Consensus is Hold.

Based on Morningstar’s fair value of $8.88 the share price appears to be substantially undervalued.

After concluding that margins are recovering, providing a more positive outlook from FY24 onwards, UBS recently upgraded the company to Neutral from Sell and raised the price target to $3.60, up from $3.15. (28/10/22).

Late October Credit Suisse downgraded Kogan to Underperform from Neutral to reflect the materially lower sales but assumes gross margin improvement post inventory clearance.

The broker’s price target fell to $2.73 from $3.66.

Expect broker upgrades tomorrow.

Kogan share price over 12 months.