Shares in Gear4Music (LSE: G4M) have jumped by 4% in early deals this morning after the company published an impressive set of full-year results for the financial year ending 28 February 2017.
The largest UK-based online retailer of musical equipment posted a 58% rise in revenue to £56.1m, a 65% rise in gross profit, and a 192% increase in underlying operating profit to £2.6m. International trading performance was particularly strong with revenue growing 124% in international markets.
2016 was a year of growth for the firm, and the company now has a strong base of customers from which to grow. 12.6m potential customers visited its website during the 2017 financial year, and the average number of buying customers rose to 340,000 from 226,000. The average number of products listed by the company on its website increased by 18% to 37,100.
Plans for expansion
To help prepare the group for further growth, G4M’s management is currently pursuing an aggressive infrastructure investment programme.
The group has exchanged contracts to acquire a 50,000 sq. ft. freehold property at Holgate Park in York for £5.3m and also opened distribution centres in Sweden and Germany last year to enhance its European customer proposition.
This substantial investment should ensure G4M has the capacity to meet the ever-growing customer demand for its products and continue to grow without stumbling.
However, while the company’s explosive growth is highly impressive, the shares look rather expensive at current levels.
Expensive growth
Over the past 12 months, shares in G4M have risen by around 350% as the company has transitioned from a lossmaking speculative business to a highly successful online growth story.
City analysts expect the group to continue on its growth trajectory for the next two years at least. Earnings per share growth of 25% per annum for the financial year ending 28 February 2018 is projected, and 26% is expected for 2019. At the time of writing, shares in G4M are trading at a forward P/E of 54. Assuming the company meets City forecasts for growth for the next financial year, this valuation seems pretty demanding. Indeed, even if G4M achieves earnings growth of 26% for the years February 2019 and 2020, shares in the company are currently trading at a 2020 P/E of 35.
Such a lofty valuation does not leave much room for manoeuvre. Granted, if G4M can continue to compound earnings per share at a rate of 25% per annum for the next five years, the shares look cheap today. But five years is a long time, and plenty could go wrong for the company during this period.
The bottom line
So overall, even though the shares have racked up astonishing gains over the past 12 months, these gains have left them looking expensive. And even though the shares might continue to trend higher in the next few months, if growth does not live up to City expectations, the company could struggle to maintain its premium valuation.
