14 November 2023

Gear4music (Holdings) plc

Interim results for the six months ended 30 September 2023

"Progressing against our strategic objectives amidst a challenging backdrop"

Gear4music (Holdings) plc, ("Gear4music" or "the Group") (LSE: G4M), the largest UK based online retailer of musical instruments and music equipment, today announces its unaudited financial results for the six months ended 30 September 2023 ("the Period").

* Adjusted EBITDA is defined as EBITDA ('Earnings before interest, tax, depreciation and amortisation') adjusted for exceptional items. In FY24 H1 EBITDA adjusted for £0.5m one-off redundancy costs (FY23 H1: £nil).

FY24 H1 Highlights:

-      Results reflect delivery against previously stated prioritisation of improved gross margins and reduced costs over sales growth in a continuing challenging retail environment, particularly in our European markets:

o  A 6% decline in revenue resulted from a planned focus on prioritising gross margins which improved by 80bps, with the Group benefiting from an improved stock profile and lower delivery costs in FY24 H1; and

o  Cost reduction initiatives to achieve £4.0m of annualised cash savings were delivered in FY24 H1, with the benefit from FY24 H2 onwards - associated one-off exceptional cost of £0.5m.

-      Good progress against the objective of reducing Group net debt to £18.1m, £3.7m lower than last year (30 September 2022: £21.8m), representing a high-point in the annual cash cycle as the business starts to build stock ahead of the peak trading period.

-      Second Hand system continues to show good potential following European launch during FY24 H1.

-      Well prepared ahead of the seasonal peak trading period, with a continuing focus on efficiency and margin improvements.

Trading Outlook:

·    Whilst profit expectations remain the same, we are moderating our revenue expectation for the year to £144m, to reflect sales run rates and the actions taken to prioritise profits over growth. This has been offset by an increase in gross margins and lower costs contributing to higher overall profit margins.  As such, full-year adjusted/underlying profit outlook remains in-line with current consensus market expectations**.

·    Net debt and on-hand inventory expected to be further reduced by 31 March 2024.

Commenting on the results, Andrew Wass, Chief Executive Officer said:

"We are pleased to have made good progress during the period against our strategic objectives of increasing gross margins, reducing our cost base, and further enhancing our customer proposition with the launch of our Second-Hand system in Europe.

Although consumer demand has remained subdued this year due to the weaker environment, our FY24 H1 revenues were 27% higher than our pre-Covid FY20 H1 revenues, and we remain confident in our long-term growth strategy.

The decisive actions we have taken will ensure the business can return to stronger profitable growth by the next financial year, as we leverage efficiencies driven by AI, build upon our platform for growth, and diversify our channels to market.

We are well prepared for our seasonal peak trading period with a range of recently developed great value music products, and we look forward to providing a further trading update after Christmas on the 18 January 2024."

** Gear4music believes that current consensus market expectations for the year ending 31 March 2024 prior to the publication of this announcement are revenues of £161.7 million, adjusted EBITDA of £9.8 million and adjusted profit before tax of £1.2 million.

Enquiries:

About Gear4music.com

Operating from a Head Office in York, Distribution Centres in York, Bacup, Sweden, Germany, Ireland & Spain, and showrooms in York, Bacup, Sweden & Germany, the Group sells own-brand musical instruments and music equipment alongside premium third-party brands including Fender, Yamaha and Roland, to customers ranging from beginners to musical enthusiasts and professionals, in the UK, Europe and the Rest of the World.

Having developed its own e-commerce platform, with multilingual, multicurrency websites delivering to over 190 countries, the Group continues to build its overseas presence.

This announcement contains inside information for the purposes of Article 7 of the Market Abuse Regulation (EU) 596/2014 as it forms part of UK domestic law by virtue of the European Union (Withdrawal) Act 2018 ("MAR"). Upon the publication of this announcement via the Regulatory Information Service, this inside information is now considered to be in the public domain.

Business Review

The business reports the Group's results for the six months to 30 September 2023, and updates on the strategic and commercial progress made in the Period.

Strategy

The business was in an improved position heading into FY24 having achieved material reductions in stock and net debt in FY23 H2, albeit at a lower gross margin than would normally be the case. Our focus in FY24 H1 pivoted to improving gross margin and cutting costs to provide the platform to restore profitability back towards the levels reached in previous periods, whilst maintaining a disciplined approach to working capital management.

Consumer confidence remains low across the UK and many European markets which in some cases has created a highly price competitive situation for certain products. As the largest UK-based retailer in our sector, our focus is maintaining a disciplined approach to product pricing, whilst reconfiguring the business to ensure the Group is profitable irrespective of market conditions.

In June 2023 we renewed our banking facilities, entering into a committed three-year £30m 'Revolving Credit Facility' ('RCF') with HSBC, providing a good level of headroom to meet our requirements. Nevertheless, the Board remains focused on prioritising a reduction in net debt, which we are doing focusing on cash generation, reducing our investment in software development, and actively managing stock levels across our distribution centres to reflect the evolving demand.

We continue to make progress against the three pillars of our progressive e-commerce strategy, and outline developments in each area below:

E-commerce Excellence

* Active customers are those that have purchased products within the last 12 months

** Repeat customers are those that have made a purchase in the defined period and have historically made at least one purchase

UK revenue in the Period was 3% ahead of last year, effectively reversing a 3% decrease last year on FY22 H1. The UK market in FY24 H1 was more resilient than other territories, reflecting Gear4music's brand recognition and scale in our core market.

International revenue in the Period was 15% behind FY23 H1 reversing a 10% increase last year, as certain markets became highly price competitive at times, and Gear4music held its pricing levels in-line with strategy.

'Cost-per-Click' ('CPC') continues to be high relative to where it has historically been, with competition for less traffic in the current economic climate. We are successfully using automated AI models to maximise revenue at any defined level of return on investment, and we purposefully held marketing costs as a proportion of revenue flat on last year and FY22 H1 at 6.9%. As a consequence, the proportion of visitors from organic and direct sources increased to 51% from 46% in FY23 H1, and 38% in FY22 H1.

Website user numbers increased 7% to 9.8m reflecting an increase in browsing and visits from lower-intent to purchase prospective customers coming from direct and organic sources. Visitors to our UK sites increased by 24% offsetting a 5% reduction in visitor numbers to the Group's international websites. This shift, alongside Gear4music keeping certain prices higher than the overall market during periods of heightened competition, contributed to a reduction in conversion rate from 4.9% in FY23 H1 to 4.0%. UK conversion fell from 5.8% to 4.4% whilst European conversion reduced from 4.2% to 3.6%. Mobile conversion also fell from 2.8% to 2.4%.

Mobile continues to be a major theme with 68% of users coming through this channel (FY23 H1: 72%; FY22 H1: 65%).

'Average Order Value' ('AOV') increased by 7% to £161 further to a 19% increase last year reflecting a return to normalised pricing, and inflationary price increases, meaning the business processes fewer orders to achieve an equivalent level of sales.

The Group served 341,000 customers in the Period (-11% on FY23 H1) and 'Active customers', being those that have purchased products within the last 12 months, similarly decreased by 9%.

The proportion of repeat customers remained broadly flat at 26.3% (FY23 H1: 26.5%), having increased from 24.4% in FY22 H1, reflecting a proportionally lower level of paid-for new customers. The level of repeat custom is lower than in other e-commerce sectors, reflecting the nature of the Group's product range and high average order value, and re-affirms the importance of the Group being profitable from the first customer transaction.

The number of subscribers on our email database increased by 0.3 million to 1.7 million and we continue to make improvements to our email retargeting with the objective of cost-efficiency increasing the number of repeat customers.

We continue to invest in our customer proposition and service teams, resulting in a great overall customer experience, reflected in Gear4music.com's Trustpilot score of 4.7/5 and 'Excellent' rating from over 125,000 reviews.

The Group invested £2.4m in its e-commerce platform in the Period (FY23 H1: £2.8m) with deployments including:

·    European launch of second-hand

·    European third-party fulfilment

·    Enhanced website product configurator

Supply Chain Evolution

FY24 H1 gross margin of 27.1% is an 80bps improvement on FY23 H1, with the improvement coming from relatively lower costs on shipping products to our customers linked to a high proportion of UK-sales and a higher AOV.

Achieving strong gross margins is critical to the overall profitability of the Group and as such is a key business objective. In H2 last year, a period when traditionally margins would be expected to have improved on H1, product margin became a secondary priority as we focused on reducing stock and net debt, and product margins decreased from 30.9% down to 29.4%. As such it was important in FY24 H1 we improved product margins back to historical levels, irrespective of the tough consumer environment.

A flat product margin of 30.9% reflects a 20bps improvement in own-brand margin to 44.1%, a 50bps fall in other-branded margin, and a positive sales mix effect as own-brand accounted for 25.4% of product sales compared to 23.6% in FY23 H1.

The number of 'Stock-Keeping-Units' ('SKUs') listed increased from 62,500 at 30 September 2022 to 64,200 at 31 March 2023 and decreased to 63,900 at 30 September 2023 as we removed less profitable, slow-moving SKUs, representing a net 2% increase in 12 months (1 October 2021 to 30 September 2022: +3%).

Stock at 30 September 2023 of £39.0m is £4.4m (10%) lower than at 30 September 2022 reflecting a continued focus on reducing both stock levels in light of lower customer demand, and net debt.

Own-brand

It has been an exciting period for own-brand product development with a number of new product lines coming to fruition, alongside establishing our new brand architecture with a fresh approach to branding and customer experience. We have made significant improvements to elevate brand identity and perception with a strong emphasis on the customer journey through improved brand assets including lifestyle imagery and video content, and updating existing product lines such as specifications, price points, packaging and supporting documents.

The number of our own-brand products increased from 4,250 at 30 September 2022 to 5,200 (+22%) at 30 September 2023, with own-brand revenue accounting for 25.4% of total product sales from just 8.1% of SKUs, reflecting the significant on-going efforts of our in-house team in developing our range of high-quality instruments and equipment at affordable prices.

International Expansion

Our international customer proposition continues to be improved from our existing footprint, with improving stock profiles better reflecting local and adjacent territory demand, and increasing the number of cost effective and premium delivery options.

The Group estimates it has a European distribution infrastructure capable of handling £150m of revenue per annum, and is well placed to capitalise on the medium-term growth opportunity as and when consumer markets improve.

Current trading and outlook

Continuing macro-economic uncertainties have impacted the consumer in the UK and across Europe. Whilst profit expectations remain the same, we are moderating our revenue expectation for the year to £144m, to reflect sales run rates and the actions taken to prioritise profits over growth. The impact on the bottom line has been offset by an increase in gross margins and lower costs.   We are well-prepared ahead of the seasonal peak trading period and our full-year adjusted/underlying profit outlook remains in-line with current consensus market expectations.

We remain confident in the enduring consumer demand for Gear4Music products, and we are well-placed to benefit once the consumer discretionary spend environment improves.

The Group plans to issue a Christmas trading update on 18 January 2024.

Financial Review

Revenue

Revenue in the Period of £62.6m was £3.7m (6%) lower than last year. UK revenue was up 3% taking our estimated share of a flat UK market to 9.3% (FY23 H1: 9.1%). International revenues of £26.1m were 15% down on last year reflecting difficult trading conditions, and accounted for 42% of Group revenue compared to 47% in FY23 H1.

Gross Margin and Gross Profit

As outlined above in the 'Business Review' gross margin improved 80bps from 26.3% last year to 27.1%, reflecting a product margin that was flat on FY23 H1 but importantly 150bps higher than FY23 H2, and a relative reduction in delivery costs reflecting a 7% higher AOV, and a greater proportion of UK-sales where delivery costs are typically lower.

Net result of revenue and gross margin movements is gross profit of £17.0m, being £0.4m (2%) lower than last year.

Exceptional items

Exceptional costs of £0.5m relate to redundancy costs incurred during the restructure of various Head Office teams, principally Software Development. These costs were paid in full in FY24 H1.

Operating Loss and Administrative Expenses

The operating loss before exceptional items of £0.4m represents a £0.1m decrease on FY23 H1 reflecting a fall of £0.4m in gross profit mitigated by a net £0.3m reduction in admin expenses.

Admin expenses increased from 27.4% of sales in FY23 H1 to 28.5% in FY24 H1.

Marketing and labour costs continue to be key components of our cost base, accounting for a combined 63% of total administrative expenses in the Period (FY23 H1: 65%):

-      Our marketing spend continues to be heavily invested in direct 'Pay-per-click' ('PPC') marketing and our approach focuses on delivering a pre-defined return on investment. Marketing costs of £4.3m equated to 6.9% of sales, the same as in FY23 H1 and FY22 H1. Alongside this it is important we invest in enhancing our organic and direct marketing capabilities which in the longer term will support our ambition to reduce marketing spend as a proportion of sales.

-      Total labour costs decreased 1% on FY23 H1 with an estimated 8% increase in average salary offset by a reduction in average headcount of 72. Headcount at 30 September 2023 (including Software Development team) of 434 was 20% lower than as at 30 September 2022 (541).

European distribution centre local admin expenses increased £0.1m (4%) on FY23 H1, to £2.5m reflecting inflationary cost increases limited by reduced activity.

Depreciation and amortisation in the Period totalled £3.3m (FY23 H1: £3.0m) including amortisation of £1.8m (FY23 H1: £1.4m) relating to our bespoke e-commerce platform, and £0.9m depreciation of 'Right of Use' assets (FY23 H1: £0.8m).

An adjusted EBITDA margin of 4.6% compares to 4.1% last year and 7.4% in FY22 H1.

Net Loss and Financial Expenses

Financial expenses of £1.0m include £0.8m bank interest (FY23 H1: £0.5m) reflecting increased interest rates and the level of debt in the business, and £0.2m interest on lease liabilities (FY23 H1: £0.2m).

A tax credit of £0.4m restricted the loss in the Period to £1.6m, compared to a £1.1m net loss in FY23 H1.

Cash Flow and Balance Sheet

In FY23 the business successfully reduced its stockholding to better reflect the level of sales and as such FY24 has seen a return to a more usual trading pattern, with a stock increase of £4.6m since 31 March 2023 ahead of the peak Christmas trading period. Stock at 30 September 2023 includes £4.4m of inbound stock-in-transit (30 September 2022: £4.1m) that will arrive ahead of peak trading.

Trade and other payables of £20.3m were £1.4m (7%) higher than last year reflecting stock deals on pre-agreed terms, and includes £1.4m of customer prepayments (30 September 2022: £2.2m).

Net bank debt was £18.1m at what is historically a low point in the annual cash cycle, leaving headroom of £11.9m within the Group's £30m RCF, and is expected to reduce further by 31 March 2024.

Capitalised software development costs totalled £2.4m in the Period (FY23 H1: £2.8m), taking total capitalisation to date to £27.4m. Amortisation in the Period was £1.8m leading to a £0.6m increase in net book value since the start of the financial year to £13.4m. In FY23 we capitalised £5.3m of software development costs. The post-restructure annualised capitalisation run rate based on the current team, is £2.8m compared to amortisation of £3.1m in FY23.

Property, plant and equipment capital expenditure was limited to £36,000 in the Period (FY23 H1: £0.6m).

Dividend Policy

The Board does not recommend the payment of a dividend (FY23 H1: nil). Consistent with its previous stated approach, the Group will revisit its shareholder distribution policy at the appropriate time.

Unaudited consolidated interim statement of profit and loss and other comprehensive income

Unaudited consolidated interim statement of financial position