At first glance, shares in shoemaker Dr Martens (LSE: DOCS) may seem like a bargain. Last year, for example, the company generated basic earnings per share of 7p. With the Dr Martens share price in pennies, that means the price-to-earnings (P/E) ratio is around 12. Not only that, but those results reported today (30 May) were actually sharply lower than the previous year. If the company can get back to its prior year performance, the valuation looks even cheaper, with a prospective P/E ratio of around 8.
But that is a big ‘if’. The results have done much to soothe my concerns about the health of the business. Yet I do not see the Dr Martens share price as a bargain so much as a possible value trap. For now I have no plans to invest.
Iconic business with unique brand
Let’s start, though, with some strengths.
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Thanks to its instantly recognisable boot design, coupled with a strong brand, the company is able to charge a premium price. Even though profits after tax fell sharply last year, they still came in at £69m. With revenues of £877m, that means the business delivered a net profit margin of 7.8%.
Direct-to-consumer sales have been strong and grew in low-single-digits last year. Dr Martens has been opening new stores itself and last year increased its count of own shops by 35. It has focused on improving its supply chain and today announced a cost-cutting plan.
Struggling with weak consumer confidence
So why am I nervous about investing in the company at this point?
Revenues last year declined by 12.3%. I do not see that as a sign of a company in robust health.
The key issue was not the retail but the wholesale side of the business. On one hand, that might not be seen as a problem. Dr Martens has made changes in its wholesale strategy and says it purposely planned to ship lower volumes into wholesalers in Europe, the Middle East and Africa.
But smaller sales are rarely a sign of a consumer business performing well. I think in this case they reflect something the company commented on in its results: difficulties in the US.
That is Dr Martens’ biggest business. Weak consumer confidence is hurting spending generally, while Dr Martens identified the boots market as facing “particularly challenging” circumstances.
That bodes poorly. There is a clear risk that ongoing economic weakness in the US will affect sales this year and perhaps beyond. On top of that, if that economic malaise spreads to other markets, we could see more revenue and profit declines at the shoemaker. The company says the current year is “a year of transition”.
Waiting for the other boot to drop
The underlying business is attractive and the company is taking steps to try and make the most of a tough market.
But falling revenues, falling profits, a lower dividend and higher net debt all show the business has its work cut out. The boot market environment makes that a tougher challenge. For now I have no plans to invest.
