James Gruber: Lochlan, you've recently initiated coverage on footwear company Accent. Can you first give us an overview of the company?

Lochlan Halloway: Absolutely. Yeah. So, Accent, they're a footwear retailer, predominantly. They operate in Australia and New Zealand, have a network of about 800 stores. So, they operate under a range of names in their stores. They've got their multi-branded banners, so that would be labels like Hype DC, Platypus Shoes and the Athlete's Foot. And then they're also the exclusive distributor of a range of global footwear brands, so Vans, Skechers, Timberland, Dr. Martens. And they have some mono brand in stores as well, where they're just a Skechers name. So that's sort of how they operate. They're wholesalers as well, so they'll sell on to other department stores and footwear retailers with these exclusive distribution agreements. And that's effectively sort of how they operate. They're the largest footwear retailer in Australia. So, we estimate they've probably got about 20% to 25% of the market. So, yeah, they're a big player in our footwear retailing segment.

Gruber: And what drives the top line for them?

Halloway: Yeah. So, it's probably two components here. Firstly, it's the store, the same store sales growth, so how many sales can they sort of eke out of existing stores, so that might be driving customers, foot traffic. It will also be putting through price rises and the like. And the other part is rolling out additional stores, so expanding their network. So, they identify a white space development, they'll put a store there, and they can capture stores through expanding their footwear network. So, it's really a story about, can we sell more shoes through existing stores, and then build additional stores to broaden sales that way.

Gruber: Is there a long runway for store expansion for them?

Halloway: Yeah, it's a good question. They're probably to an extent at odds with some of their global brick and mortar retailing peers. So, when we think about, if we look across the world now, brick and mortar retailing because of the online story is starting to often recede and contract. We've got store closures in a lot of other competitors and global peers. But for these guys, they're actually pretty rapidly expanding their network. So, they've almost doubled their store footprint in the last five or so years. And the reason they've been able to do that is basically because they're getting new brands, exclusive distribution brands, so they're opening up stores for brands like HOKA, for example, they're pushing out some of their new apparel brands, like Stylerunner and Nude Lucy, their own brands. And that's allowing them to buck that global trend.

In terms of the outlook, I mean, the online story is going to keep being a big part of retailing globally, and that is going to make it more difficult to keep opening up physical stores. We think they've got probably about three years left of store openings where they can keep opening up about 80 stores a year, and then after that, we assume that their store footprint matures and stabilizes.

Gruber: Does Accent have a wide moat or a moat?

Halloway: Yeah. So, we assign Accent a narrow moat. So, we think that it can earn returns on investment above its weighted average cost of capital over the next 15 or so years. What underpins that view is the relationships they have with their suppliers, these global large footwear brands. So, as I said, Skechers is an example of that. They're basically the face of Skechers in Australia. So, as I said, they will sell their shoes through their stores like Platypus and Hype DC, but they'll also open up a Skechers brand store. Those distribution agreements are long dated, often up to 10 years, and they've been going for a long time. So, we've got confidence they can keep these brand agreements and continue to have that very large retail footwear presence through that. And the other thing too, probably another part of this is this very large store footprint they have, 800 stores. It means they're really the dominant player in Australian footwear. And if you want to sell shoes in Australia, you really have to deal with them to have access to the market. So, that gives them a bit of competitive protection there too, their size.

Gruber: What's your fair value on the stock and what are the assumptions behind that?

Halloway: Yeah, sure. So, we have a fair value estimate of $2.40 per share for Accent Group. What underpins that? Look, I think in the near term, we have to recognize it's going to be a tough environment for retail, apparel retailing. You've got cost living pressures, you've got inflation, you've got rate rises. And so, the next year, fiscal 2024 is probably going to be tough. And I think the market is really quite focused on the near-term outlook and the cyclical downturn we've seen in apparel. But looking further ahead, I think that's where we see a lot of potential growth for Accent. So once the cycle turns again, potentially in two years or so in our view, then we think earnings recover and sales recover. And that's the driver of our fair value at the moment. So, you've got that same store sales growth that's going to come back through when the cycle turns. You have the store rollouts for the next couple of years. And that's what underpins that. And a gradual margin uplift as we get operating leverage and an increasing shift towards their retail business and away from the lower-margin wholesale.

Gruber: What are the main risks for the stock?

Halloway: Yeah. So, look, as I alluded to, obviously the near term is a lot of uncertainty. Consumers are under a lot of pressure, and that's meant retail is under pressure. Christmas period and Black Friday are going to be big question marks this year about how much consumers are going to be able to spend given the sort of broader macro environment. So, whether this downturn is sharper than we're currently forecasting or perhaps more protracted than we're expecting, that is a risk there. So that's probably one thing for them. I think that's a short-term piece. Longer term, things like the shift to online are probably going to be important for them. So, look, yes, we've got online sales growing as a proportion of total footwear sales in Australia. The faster that happens over, as I said, the faster it's going to be more difficult to open up brick and mortar retailing. So that's potentially risk there. But our view, as I said we've got increasing online penetration, but we're still getting solid industry level sales growth over the long run.