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HMV: 2005/6 results
The 5.7% like-for-like fall in HMV's sales was disclosed in the last trading statement and the 22% decline in operating profit is the natural result of it.
Although the decline in sales was offset by expansion the gross profit from a slightly lower (2% lower) level of sales has to cover the increased costs of the expanded retail chains, and the gross profit is itself is lower as price competition has forced down gross margin.
Operations in Canadian and the Asian Pacific continued to perform well, but with 79% of pre-exceptional operating profit generated by HMV UK & Ireland (operating profit down 35%) and Waterstones (operating profit down 18%) this is little comfort.
HMV delivered £25m of its planned cost cuts this year, but it still faced strong declines in profits. We are likely to see much the same this year. EPS growth is likely to be (at best) limited for the foreseeable future.
The agreed takeover of Ottakar's is as good as completed and HMV has declared the offer unconditional. The combination of the two businesses will make Waterstone's substantially larger (a 42% increase in revenues) and may give it pricing power in dealing with both publisher's and customers.
The problem is that Ottakar's is currently loss making and combining two businesses that are performing badly is as likely to compound as to solve their problems. It also does little to deal with competition from internet booksellers and supermarkets who are pushing down prices in much the same way as downloads and on-line sales are pushing down recorded music prices.
Not only is HMV planning to cut prices, but the recent announcement that Universal music is planning to cut prices by offering CDs in cheaper packaging suggests the music publishers are also preparing for further price cuts.
At 173p HMV is trading on a prospective PE of 9.6× with a 4.3% yield which is cheap against both the market and the sector. However given the poor prospects for growth in the competitive environment HMV appears to be fully valued at this level.