Bank of America Merrill Lynch has downgraded its rating of Argos and Homebase owner Home Retail due to concerns over the impact of the UK’s upcoming National Living Wage on the company’s long term margins.
The new minimum wage, which Chancellor George Osbourne plans to have reach at least £9 per hour by 2020, has led many retailers to downplay the issue of the non-mandatory Living Wage increase. However, Merrill Lynch has warned that the subject requires much closer attention from investors.
“We believe the Living Wage announcement represents one of the biggest new structural challenges for UK retailers since the advent of the internet,” the bank warned.
Merrill Lynch’s pessimistic assessment of Home Retail comes as a result of the company’s high operating leverage. The price target for Home Retail was slashed, and its rating changed from ‘overweight’ to ‘equal-weight’.
“This is despite our conviction that the new Argos Store-in-store format represents a very exciting, and underappreciated, opportunity for the group and that there is still scope for the shares to double in a bull case scenario.” Merrill continued.
“However, our revised bear case now suggests circa 70% risk to the downside, making the risk-reward balance much less favourably skewed than when we put the shares on our buy list back in June.”
Merrill Lynch also cut its target price on other retailers including Debenhams, Halfords, Dixons Carphone, Marks & Spencer, Kingfisher, Pets at Home and Sports Direct.
Others such as Next and Poundland received more optimistic assessments.