All amounts in SEK.

The story of H&M goes back to 1947 when Erling Persson – father to Stefan Persson (Chariman of the Board) and grandfather of current CEO Karl-Johan Persson – opened the first store. Since then, H&M has grown and expanded its business internationally. At the end of its latest full fiscal year in 2015 it operated a total of 3,924 stores in 61 different markets around the globe with total sales of 181 billion (fiscal year 2015). As of 31 August 2016 the group had 4,135 of which 176 were franchise stores.

By Horiuchi (Photo taken by Horiuchi) [Public domain], via Wikimedia Commons
The Persson family is the dominant major shareholder and controls 69.7% of voting rights and 37.7% of total shares outstanding (see table below). H&M is more of a publicly listed family company. This could be one of the reasons explaining H&M’s poor quality when it comes to financial reporting and the disclosures presented in the annual report.

This text focuses on H&M’s annual report for fiscal year 2015 (1 December 2014 to 30 November 2015).


Source: H&M Annual Report 2015 | Enlarge

Expansion has been nothing but extraordinary with each year offering new store openings and growing total revenues. Focusing on revenues, H&M has delivered some pretty solid growth. But, the further down the profit and loss statement we go, the worse it gets. Profitability has not kept up with the growth in sales, putting pressure on profit margins.

During the last nine years, that is 2007 to 2015, H&M grew its revenues at a compounded annual growth rate (CAGR) of 8.7%, from 78,346 million in 2007 to 181,861 million in 2015. Gross profit and operating income during the same period grew at a CAGR of 8.0% and 3.9%, respectively. The lower CAGR in gross profit and operating income put pressure on profit margins, with gross profit margin going from 61.1% in 2007 to 57.0% in 2015, and operating margin from 23.5% to 14.9%.

The last decade has offered a solid mix of challenges for H&M; a financial crisis, currency movements, weather and fashion trends as well as growing competition from e-commerce and online retailers. The problem is not in the revenue growth itself, it is that profitability has significantly declined.

For most businesses growth comes at a cost. To maintain and grow its store count – from 1,522 in 2007 to 3,924 stores in 2015 – H&M spent a total of 56 billion in tangible capital expenditures. Then we also know most businesses have costs for growth SG&A and increasing working capital needs that comes with a certain amount of growth. H&M also spent an increasing amount of cash on its online sales business, either expensed directly through the income statement or capitalized on the balance sheet. Other operating expenses have increased from 8.9% of sales in 2007 to 10.8% in 2015. Intangible capital expenditures amounted to 5 billion, of which 4 billion was spent in 2012-2015.

The high level of investments together with declining profitability have resulted in a lower amount of cash, with cash and cash equivalents steadily declining from 20.9 billion in 2007 to 13.0 billion in 2015 (8.7 billion per Q3 2016). H&M is no longer able to found its yearly dividend from free cash flow, and the dividend has been maintained at about the same level in the latest five year period thanks to cash in the bank from prior years. Of course this could be solved to some extent by H&M if they decided to stop or reduce its growth capital expenditures (and other growth expenditures) or manage to increase profit margins and cash flows. The unpleasant part in this equation is that lowering capital expenditures would most likely result in a lower future growth rate (fewer store openings each year, even if compensated in the best case to some extent by rising online sales), or no future growth at all and in a worst case scenario with declining future total revenues.


Source: Morningstar

Average return on equity (excluding cash and cash equivalents) has averaged 88% in 2007-2015, from a high of 134% in 2007 to a low of 52% in 2015. Returns are still great, but it’s also obvious that what we’ve got here is a negative trend in the underlying profitability. The main question for investors today is what H&M’s future profitability will look like? With the retail industry, and especially the fast-fashion sector being one of heavy competition it’s not entirely obvious what the future has to offer. Historically, H&M has made its long-term shareholders very wealthy. The question going forward isn’t about whether H&M has been great or not in the past – we all know it has. The question is what future performance H&M will be able to offer? And the last 5, 7 and 10 year periods may all have made a reasonable answer to this make-or-break question a little gloomier. But, it may still be as great as its always been, or? Since we don’t know in which areas H&M deploys all its growth expenditures and the mix between the “old H&M” and the new growth initiatives and brand building that has been ongoing for some time.

As always, we know what’s been but not what will be. H&M is currently trading at 234 per share, a level first reached in 2010. In the middle of 2013 the market changed its view of H&M and the share price went from 230, reaching an all-time high of 368.50 in 2015. Since then the share price is down about 36%.

It’s been almost a decade of declining profit margins and profitability. With a great annual report at hand we would be able to search for potential answers and understand in a good enough way what goes into this negative trend in profitability. But I’m afraid we don’t have one, since H&M seems to be following more of a “non-disclosure” policy than the other way around– sad but true, at least for outside passive investors. Let’s take a look at a few different areas in the 2015 annual report to see what’s missing.



Quality of Financial Reporting

Reading H&M’s annual report for fiscal year 2015 provides some great insights into the business. Although there are a few things that an outside passive investor would probably very much like to know, about which H&M says nil.

When reading an annual report and thinking about a specific business, ask yourself; What financial and non-financial metrics would I want if I was the one running the business? A few things you probably would like to know about are:

  • Sales per region, per country, at the store level, as well as sales per square meter – for each major brand in the portfolio.
  • The profitability of the business – that is, profit margins and invested capital turnover, together making up the return on invested capital – and any changes occurring and the reasons explaining any significant changes in underlying trends – again for each major brand in the portfolio.
  • Tangible and intangible capital expenditures – both maintenance and growth – split between
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