Kate Swann's way could still save WH Smith

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After the demise of Jessops, HMV and Blockbuster, the brutal Christmas on the high street will continue this week when WH Smith (LSE: SMWH.L - news) reveals a sharp decline in sales.

Forecasts in the City suggest WH Smith , which sells stationery, newspapers and books, could report a decline in like-for-like sales of as much as 5pc in its high street stores.

However, despite this, WH Smith and its chief executive Kate Swann will also demonstrate that shrewd management and forward thinking can ensure that reports of the death of the British high street have been greatly exaggerated. As Primark revealed last week with a 25pc sales increase (and no online business), not everyone had a miserable Christmas.

As the dust settles following the frantic festive season, it is now becoming clear that the high street is enduring one of its most challenging periods.

In the past week, more than 10,300 jobs and almost 1,000 stores have been put at risk by Jessops, HMV and Blockbuster falling into administration.

This follows a brutal 2012, when the high street saw Comet, Clinton Cards, Peacocks and JJB Sports fail.

When Swann took over at WH Smith 10 years ago, many thought it was not long before she would be picking up the phone to the administrators.

In her first results announcement as chief executive in April (Paris: FR0004037125 - news) 2004, WH Smith reported a £72m pre-tax loss.

At the time, the retailer was being dismissed as a relic with no purpose on the modern high street. Even Swann said the company's cost base was "uncompetitive" and warned it was under pressure from the internet and supermarkets.

Those pressures have, if anything, worsened over the past nine years.

However, rather than following HMV and succumbing to these pressures in 2013, WH Smith is instead poised to report annual pre-tax profits of more than £100m for the second year in a row.

"WH Smith is just the sort of retailer that, in the present climate, could have found itself in difficulty," said Neil Saunders, managing director at retail consultancy, Conlumino.

"Its survival owes much to the very disciplined financial management of Kate Swann, who has put the business on a firm footing.

"Extremely tight cost control has allowed Smiths to grow profits even at a time when sales have been shrinking."

On top of her reputation as a tough cost-cutter, Swann has also demonstrated a foresight for new trends in retailing.

For example, she disposed of the US hotel and Asia-Pacific business, demerged WH Smith from its wholesale arm, Smiths News (LSE: NWS.L - news) , and created a vast travel business that covers airports, railway stations, hospitals, workplaces, and motorway service stations.

However, perhaps Swann's most significant move was to shift the focus of WH Smith into stationery and away from low-margin entertainment products such as CDs.

"She probably saw the writing on the wall before most and her quick reaction has inevitably saved WH Smith a great deal of pain," Saunders adds.

"In my view it is unlikely WH Smith would go back into entertainment, mainly because while they might get a short-term boost from the demise of HMV, longer term the category offers no real benefit for a physical retailer."

WH Smith may not be heading back into entertainment, but the next stages of its strategy will be closely watched nonetheless.

This already looks a key year for the company, with Swann handing over the leadership to Steve Clarke . He is well respected in the City and at present is the head of WH Smith's high street division, which suggests it will remain a core part of the business.

However, sceptics are betting against WH Smith.

The retailer is the second most shorted stock on the FTSE behind Home Retail (Other OTC: HMRLF - news) Group, with 16pc of its stock on loan.

The shorting of the company has accelerated since the scale of HMV's problems became clear last month. Since December 20, shares in WH Smith have fallen 10pc. Jonathan Pritchard, analyst at Oriel Securities, said: "Cost savings and gross margin gains will eventually run out.

"The Swann era has been one of excellent profit and margin growth, in an environment of falling like-for-like sales.

"But ultimately, margin hikes must start to dry up. This is a retail environment in which service is coming to the fore, and we do not consider WH Smith stores to be in the vanguard from this perspective. More, not fewer, staff may be required in future.

"Better buying and well-controlled markdowns have been at the heart of recent gross margin gains as well as the waning positive from fewer entertainment sales.

"These sources may continue to help the margin in the short-term but there will come a time when the losses of volume must surely have an effect. Again, gross margin forecasts are probably underpinned for now, but we're concerned about the medium term."

How WH Smith deals with books amid the rise of tablet computers will be one of the key decisions for the new boss.

The company has started selling the Kobo, an e-reader, to hedge against declining sales of traditional books. However, retailers such as Dixons and Argos have reported soaring sales of tablets, meaning that the iPad Mini and its rivals are becoming increasing common in British households.

Swann and her team, though, are used to overcoming the doubters. When the collapse of Lehman Brothers more than four years ago sparked the demise of Woolworths, WH Smith was earmarked as one company likely to follow.

Sanjay Vidyarthi, at investment bank Espirito Santo, said: "WH Smith has always spotted and reacted to trends on the high street and, while news of the demise of the high street has been heightened in recent days, we would point out that they have experience and a track record of taking market share from others' distress.

"A classic case of this is in books, regarded as WH Smith's biggest risk area. WH Smith is growing market share here.

"A typical customer buys only three books a year, of which only one is fiction. Positive noises from Bloomsbury and comments in the press in recent weeks suggest that books recorded strong Christmas sales, with celebrity cookery books leading the way.

"Longer term, we expect WH Smith to manage its books space actively as the threat grows, but this is probably two to three years away at least."

Even if WH Smith's book sales do fall, Swann has left the company other avenues of growth.

"The travel business has huge potential," Saunders said.

"As does spin-off fascia Funky Pigeon. International expansion, including in Russia, will also help to drive sales."

There are undoubtedly tough decisions to make for WH Smith about the UK high street business, which still has more than 600 stores.

"The biggest one of these is how much the firm is willing to invest in rejuvenating its high street estate, a task that is now long overdue and if not remedied is likely to deteriorate sales still further," says Saunders.

However, the fact that WH Smith is in a position to make decisions rather than being left at the mercy of banks concerned about high levels of debt is a luxury that many other retailers would love to have in 2013.