ASX banks will be exiting financial year 2020 with their tails between their legs, but investors may not fully appreciate the key areas of risk to their earnings.

The worst performer over the past year is the Westpac Banking Corp (ASX: WBC) share price, which fell around 37%. The Australia and New Zealand Banking GrpLtd (ASX: ANZ) share price isn’t far behind with a 33% drop.

The National Australia Bank Ltd. (ASX: NAB) share price comes next with its 31% fall from grace while Commonwealth Bank of Australia (ASX: CBA) share price shed 17% over the period.

CBA shareholders shouldn’t feel too smug. That’s still a meaningful 7% behind the S&P/ASX 200 Index (Index:^AXJO).

Business loans are the bigger risk

The impact from the COVID-19 pandemic on the sector is well flagged. Mortgagees who’ve lost their jobs due to the shutdown can’t repay their loans and that will fuel the rise in bad debt.

However, the spotlight should be on loans to small to medium enterprises (SMEs), according to Citigroup.

“Indeed, anecdotally several banks have noted to us in recent weeks that investors remain fixated on discussing mortgages, while the pain likely resides in the SME book,” said the broker.

Industries most at default risk

The latest data from the Australian Bureau of Statistics showed that around 30% of businesses don’t have cash or access to debt that will allow them to survive for three months.

The types of businesses that are overrepresented in this distressed group include the usual suspects in retail and accommodation and food businesses.

Others in the firing line are “professional, scientific and technical services” and “transport, postal and warehousing”.

Can’t last for 3 months

The other sobering finding from the ABS was that around 70% of businesses impacted by the coronavirus lockdown have suffered a revenue drop of more than 25%. For industries operating on low margins, the decline is enough to push them over – and that may happen when JobKeeper ends in on September 24.

This is a bigger risk to the banks because they are likely to show leniency to mortgage customers in respect to extending loan holidays. But the lenders will only continue to support SMEs that they think can survive the next few months.

The focus is on what new support the government can provide after the wage subsidy ends. The Morrison government ruled out extending JobKeeper but left the door open to supporting specific industries that are hard hit by the virus.

However, Citigroup warned that 57% of SME loans are to industries that are difficult to target in isolation.

First home buyers in the hotseat

Having said all that, mortgage defaults still represent a significant risk to ASX bank investors. But the risk in this area is concentrated on younger first home buyers, according to ANZ’s analysis reported in the Australian Financial Review.

The bank is more worried about this group as they are likely to have entered the market near or at its peak. This means they have taken on more debt and are coming into the crisis with more leverage than others.

The risk of rising unemployment and fact that banks have reached the interest rate floor will make the next two years a challenge.

Let’s also not forget that a big amount of new recent mortgages have gone to this group of homebuyers and that the government’s $25,000 grant could entice even more to jump into the market with their eyes closed.

More reading

• Is it time for a plan B with ASX 200 shares?
• Is CommBank still the best ASX dividend share to buy?
• Saracen Mineral and 2 other companies defying the ASX 200
• Why Domino’s share price is smashing the market
• Down 15% in 2020! Why I like the Domain share price today

Motley Fool contributor Brendon Lau owns shares of Australia & New Zealand Banking Group Limited, Commonwealth Bank of Australia, National Australia Bank Limited, and Westpac Banking. Connect with me risk-free on Twitter @brenlau.

The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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The WiseTech Global Ltd (ASX: WTC) share price will be on watch on Tuesday after the logistics solutions company revealed some heavy insider selling.

What did WiseTech Global announce?

This morning WiseTech advised that it has been informed that its founder and CEO, Richard White, has been selling shares on market this month.

According to the release, Mr White has sold a total of 2,445,653 shares over the last few trading days. This represents approximately 0.76% of the total issued capital of WiseTech Global.

The chief executive first offloaded 206,439 shares through on market trades between 22 June and 26 June for an average of $22.02 per share. This works out to be a total consideration of $4,545,786.78.

Mr White then sold a total of 2,245,925 shares (inclusive of indirectly held shares) through an on-market trade on Monday 29 June. These shares were sold at an average of $18.40 per share, which represents a total consideration of $41,325,020.

In total that’s $45,870,806.78 worth of share sales by the chief executive. No reason was given for the sales.

Does the CEO have any shares left?

Despite this sizeable sale of shares, Richard White continues to have voting control over approximately 151 million WiseTech Global shares. This represents approximately 46.9% of the issued capital of WiseTech Global.

The company advises that Mr White has confirmed his commitment to WiseTech Global and his intention to remain a significant shareholder for the very long-term.

What now?

While insider selling rarely goes down well with the market, I wouldn’t be overly concerned with this one.

Firstly, Mr White still has a very large holding, which means his interests are firmly aligned with shareholders.

Secondly, this certainly isn’t a case of an insider selling because a share price has been rocketing higher. The latter sale of shares ($18.40 per share), comes at a 52.5% discount to WiseTech’s 52-week high.

More reading

• ASX 200 drops 1.5% on elevated COVID-19 fears
• 2 ASX tech shares to buy and hold beyond 2025
• ASX 200 Weekly Wrap: ASX back in the green
• ASX 200 finishes higher by 0.8%, Carsales share price driven up by FY20 guidance
• Why I think Xero shares are a great long-term buy

Motley Fool contributor James Mickleboro has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of WiseTech Global. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.

This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.

Microsoft (NASDAQ: MSFT) recently agreed to purchase CyberX, a developer of cybersecurity solutions for the industrial IoT (Internet of Things) market. Microsoft didn’t disclose the value of the deal, but TechCrunch claims it was worth roughly $165 million.

Microsoft will integrate CyberX’s tools, which can digitally map and gather data on thousands of devices in a building, into its broader portfolio of IoT security services. Microsoft claims CyberX provides “a fundamental step to securely enable smart manufacturing, smart grid, and other digitization use cases across production facilities and the supply chain.”

Microsoft claims the acquisition will also strengthen Azure Sentinel, its cloud-native security platform, and complement its other cybersecurity services. On its own, the CyberX acquisition might not seem all that significant for Microsoft, which ended last quarter with $11.7 billion in cash and equivalents. Startup tracker Growjo estimates CyberX only generated about $33.5 million in annual revenue last year — a drop in the ocean compared to Microsoft’s projected revenue of $141.5 billion this year.

But if we track Microsoft’s growing list of cybersecurity investments, we’ll notice it’s gradually becoming a powerhouse in the growing sector. Let’s see why Microsoft is expanding its cybersecurity portfolio, and how it could threaten smaller players in the space.

Microsoft’s cybersecurity and IoT ambitions

Prior to buying CyberX, Microsoft bought security software maker XDegrees in 2002, rootkit security software maker Komoku in 2008, enterprise security firm Aorato in 2014, security firms Adallom and Secure Islands in 2015, and cybersecurity firm Hexadite in 2017. Adallom was its biggest cybersecurity acquisition to date, with a reported value of $320 million.

Those acquisitions buoyed the growth of Microsoft’s paid cybersecurity services, which include tools like Office 365 Security and Azure Security Center. Microsoft also recently expanded its subscription-based Microsoft Defender ATP platform to Macs and Android devices. Microsoft doesn’t disclose its revenue from these services separately.

Two years ago, Microsoft announced it would invest $1 billion annually in its growing cybersecurity ecosystem. That same year, it pledged to invest $5 billion in the IoT market over the following four years.

Its IoT expansion included the introduction of Azure IoT Central, a cloud-based service for monitoring IoT devices; Azure Sphere, an end-to-end IoT product for Linux-based microcontrollers; and Azure IoT Edge, which runs Azure and AI services on the network edge.

Microsoft is expanding its cybersecurity and IoT portfolios for two reasons. First, baking in first-party security services into its broader ecosystem — which includes Windows, Azure, and its other commercial cloud services — tightens its grip on its own software and reduces the need for third-party security software.

Second, expanding its reach across the IoT market with new operating systems (like Windows IoT) and services (like Azure IoT) could expand Microsoft’s reach beyond its mature PC and server markets. Doing so could widen its moat against challengers like SoftBank‘s ARM and tether non-PC devices more tightly to its software ecosystem.

The global IoT market could still grow at a compound annual growth rate of 24.7% between 2019 and 2026, according to Fortune Business Insights. That’s why Microsoft is investing heavily in new IoT platforms and security solutions — it can’t afford to lose this sprawling market as it did with smartphones.

Could Microsoft disrupt the cybersecurity market?

Simply put, Microsoft wants to turn its software platforms into walled gardens that rely less on third-party services, including web browsers, cloud services, and security services.

In this context, Microsoft’s growing interest in the cybersecurity market could be bad news for stand-alone security companies. Microsoft’s acquisition of CyberX, along with its expanding platform of IoT and security services, strongly suggests that it can fully run and secure smart factories without additional third-party services.

Yet we shouldn’t assume companies will eagerly tether themselves to Microsoft’s ecosystem. Other tech giants, like Amazon and Cisco, also offer bundled IoT security solutions — and they still haven’t killed smaller IoT security players like FireEye and Palo Alto Networks, which offer more flexible solutions.

Therefore, Microsoft might be quietly becoming a cybersecurity powerhouse, but there could be plenty of room for all these players to grow without trampling each other.

This article was originally published on Fool.com. All figures quoted in US dollars unless otherwise stated.

More reading

• Microsoft is giving up on retail
• These 2 ASX shares are perfect for a beginner investor
• These are the 4 cheapest ETFs on the ASX
• ASX investors brace to ride the next wave of “irrational exuberance”

Leo Sun owns shares of Amazon and Cisco Systems. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool’s board of directors. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of and recommends Amazon and Microsoft and recommends the following options: long January 2021 $85 calls on Microsoft, short January 2021 $115 calls on Microsoft, short January 2022 $1940 calls on Amazon, and long January 2022 $1920 calls on Amazon. The Motley Fool Australia has recommended Amazon. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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One of the best investing books I think you can read is Pat Dorsey’s The Little Book That Builds Wealth. The book is an excellent guide to identifying businesses with robust economic moats or competitive advantages.

One of the most powerful moats described in Dorsey’s book is switching costs. These are barriers that make it hard for customers to jump to another competitor.  

The incredible power of switching costs

When was the last time you changed banks?

Most of my banking is through the same bank I’ve been with for the last 30 years! It has become a hub for my money: managing all sorts of arrivals and departures automatically, receiving cash, paying bills and allocating savings. To switch banks would be a huge hassle.

This is great news for my bank! Businesses that can retain customers with switching costs can charge these customers higher fees and earn higher returns without fear of losing customers.

The 3 companies with strong switching cost moats

Accounting platform Xero Limited (ASX: XRO) is a perfect example of a product with high switching costs. Once set up, Xero’s software becomes deeply embedded into the daily operations of the businesses it serves. It becomes a daunting task to consider shifting to a competitor.

This helps to explain why Xero has such good customer retention rates. The number of customers that leave Xero is known as ‘churn’ and in the 12 months to 31 March, 2020 Xero had an average monthly churn of just 1.13%. This strong customer retention gives Xero a pricing power that it can deploy to counter-cost inflation.

A similar example is digital church payment service Pushpay Holdings Ltd (ASX: PPH). Once Pushpay’s church customers are set up with the software, and the congregation has downloaded the app, it is a time-consuming and disruptive process to change to a competing product. PushPay has been growing strongly and has a revenue retention rate of 97.5%.

A different kind of switching cost is possessed by Transurban Group (ASX: TCL), one of the world’s largest toll road operators. In many places that Transurban operates, transport projects’ switching costs come in the form of time and convenience. Sure, you could get to Melbourne airport by avoiding the Citilink M2 toll road. But for many people, the extra 25 minutes of driving is just not worth it to avoid the $5–$10 toll.

Foolish takeaway

Keep an eye out for companies that have high switching costs, hinting that they have strong economic moats. If we can pick up these companies at a reasonable price and add them to our portfolios, the powerful returns they produce offer us a good chance of compounding our wealth handsomely over time.

More reading

• Are you in your 20s? Here’s why I would buy these quality ASX shares
• These are the 3 reasons I own Pushpay shares
• Is the Pushpay share price too high to buy?
• ASX 200 Weekly Wrap: ASX retreats as confidence wanes
• 10 high quality ASX shares to buy in FY 2021

Regan Pearson owns shares of PUSHPAY FPO NZX and Xero.

You can follow him on Twitter @Regan_Invests.

The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of and recommends Apple. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of PUSHPAY FPO NZX and Xero. The Motley Fool Australia owns shares of Transurban Group. The Motley Fool Australia has recommended Apple and PUSHPAY FPO NZX. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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Barring a terrible finish to the month on Tuesday, the Afterpay Ltd (ASX: APT) share price will record a very strong gain in June.

Month to date, the payments company’s shares are up an impressive 20%.

Why is the Afterpay share price surging higher?

Investors have been buying Afterpay’s shares this month following strong updates from its rivals and an equally positive update on its UK business.

In respect to the latter, earlier this month Afterpay revealed that its UK-based Clearpay business now has over 1 million active customers using its platform. This is just one year after launching in the country and makes the Clearpay business one of the largest of its kind in the European market.

The good thing about its increasing customer numbers is that it makes the platform more appealing to merchants. In light of this, it will come as no surprise to learn that Afterpay reported a sizeable increase in merchants on its platform.

There are now more than 1,100 brands and retailers offering, or in the process of offering Clearpay to their customers in the UK. Recent additions include Bare Minerals and ISAWITFIRST. They join the likes of ASOS, Marks & Spencer’s, JD Sports, and Boohoo on its platform.

Positively, I believe the wider adoption by merchants will be supportive of further customer growth in the future, allowing Afterpay to quickly entrench its position.

Another positive was that the company advised that its customer purchasing frequency in the UK is outpacing the United States at the same stage. Afterpay’s UK customers are transacting more than 8 times per year, compared to six times at the same point following its United States launch.

Afterpay co-founder, Nick Molnar, spoke positively about current trading conditions.

He said: “The world and the industry are changing at a rapid pace, and during this challenging time consumers are looking for ways to pay using their own money – instead of turning to expensive loans with interest, fees or revolving debt.”

Is it too late to invest?

I don’t believe it is too late to invest if you’re planning to make a long term investment.

I’m confident Afterpay is on its way to becoming a real force in the payments industry and feel its shares could generate strong returns for investors over the 2020s. Especially if it successfully expands into mainland Europe and Asia.

More reading

• Are you in your 20s? Here’s why I would buy these quality ASX shares
• Invest $50 per day in ASX shares to generate a $50,000 passive income
• A good time to buy Commonwealth Bank shares?
• Could the Afterpay share price really be good value right now?
• Why National Storage shares are a great “set and forget” option for your portfolio

Motley Fool contributor James Mickleboro has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of AFTERPAY T FPO. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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The Domino’s Pizza Enterprises Ltd. (ASX: DMP) share price is up by 27.4% year to date (YTD). In contrast, the S&P/ASX 200 (INDEXASX: XJO) is down by 11.8% YTD, a difference of almost 40%.

During the past decade, it was one of the fastest-growing companies on the ASX. In fact, an investment at the start of 2010 would have multiplied 13.5 times by now.

Even though it has already seen a lot of growth, I believe the company still has strong growth ahead of it, and below I’ll share why.

Domino’s grew sales by 29.5% in 2019 and it is the leading international franchisee of Domino’s Pizza, Inc. (NYSE: DPZ). Within Australia, it is the largest pizza chain both in terms of network store numbers and network sales. Moreover, the company also holds the exclusive master franchise rights for the Domino’s brand and network in Australia, New Zealand, Belgium, France, Netherlands, Japan, Germany, Luxembourg and Denmark.

Domino’s share price and performance

The company has withdrawn its earnings forecast for the year due to the pandemic. In April the company’s share price started to rise after previously closed stores started to reopen, though the company was quite opaque about revenue and earnings levels. Notably, they advised that Japan and Germany maintained its strong sales performance. They also stated that same-store sales remained consistent for Australia and Europe. 

However, the company continues its medium-term outlook. Its new store openings were +7 to 9% per year, same-store sales were +3 to 6% per year and net capex was $60–100 million per year.

The compound annual growth rate (CARG) for Domino’s sales is 21.9%. In addition, the company has a very strong balance sheet. 

I first became interested in Domino’s as a company around 2016. I started to learn about how the company took notice of its critics and totally reinvented itself from the ground up from 2010. It rebuilt its pizzas, acknowledged the importance of transport, and built a digital e-commerce ordering platform.

The most brazen move by the US parent company was to open a Domino’s in Italy, the ancestral home of pizza!

Foolish takeaway

A company that has the courage to listen to its critics and rebuild itself from the ground up is a company that I am very interested in. The Australian master franchisee has a massive territory with a lot of room left to grow in large European markets. Its financial history tells the story of a company that is well managed and is perpetually on a growth trajectory. I personally think the Domino’s share price is underquoted, even though it is nearing previous high levels. 

More reading

• Down 15% in 2020! Why I like the Domain share price today
• Are these ASX 200 shares dirt cheap right now?
• 5 things to watch on the ASX 200 on Tuesday
• ASX 200 drops 1.5% on elevated COVID-19 fears
• The latest ASX recommendation changes by top brokers

Motley Fool contributor Daryl Mather has no position in any of the stocks mentioned. The Motley Fool Australia has recommended Domino’s Pizza Enterprises Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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The Domain Holdings Australia Ltd (ASX: DHG) share price has slumped 14.9% lower in 2020 but I think there’s a lot to like about the ASX media share.

What does Domain Holdings do?

Domain is a real estate media and technology services business focused on the Aussie property market.

The group generates significant earnings from its data services and website, domain.com.au. That includes listing fees for Australians looking to list their homes on the group’s flagship website.

Anyone who has even casually looked at buying or renting a home recently has likely looked at Domain. I think that brand strength combined with its position in real estate media and technology makes the Domain share price rather hard to value.

Why I like the Domain share price today

If we compare Domain’s 2020 performance against the S&P/ASX 200 Index (INDEXASX: XJO) then it shows Domain is lagging. The benchmark ASX 200 index has fallen 13.0% which means Domain is behind by 1.9%.

However, compared to ASX media shares like oOh!Media (ASX: OML) and Southern Cross Media Group Ltd (ASX: SXL), Domain is outperforming.

I wouldn’t put Domain in the real estate sector, but the Domain share price is certainly doing better than many Aussie real estate shares.

In terms of competitors, shares in REA Group Limited (ASX: REA) have dipped just 1% this year. That could mean Domain is a relative value buy in the current market.

I think the mix of industries is what makes Domain such an interesting company. I personally think that its 14.9% fall in 2020 may make it a decent bargain for $3.15 per share.

While there is a lot of uncertainty in the Aussie property sector right now, there is also a lot of government support. Listings have surged in the months since March which could be a good sign for Domain’s August earnings result.

Aussies tend to have an obsession with owning residential real estate. That obsession could well see prices be maintained at or near their current levels, particularly with interest rates at all-time lows.

The real test for the real estate market will come in September when government stimulus measures are wound back. That could be a big test for the Domain share price if investors get spooked by fears of a property crash.

In the meantime, the Domain share price is paying a 1.9% dividend yield but are trading at a price to earnings ratio of 48.2 times. That to me says despite its possible relative value it may be pricey compared to long-run ASX averages.

Foolish takeaway

Personally, I do like the look of the Domain share price as a long-term income share. In my view, I think the short to medium term positives outweigh some of the potential headwinds in the long-run.

Nevertheless, I think I’ll be waiting until the group’s August earnings result rather than rolling the dice in the current market.

More reading

• Why Domino’s share price is smashing the market
• Are these ASX 200 shares dirt cheap right now?
• 5 things to watch on the ASX 200 on Tuesday
• Why I would buy PolyNovo and these stellar ASX growth shares
• ASX 200 drops 1.5% on elevated COVID-19 fears

Motley Fool contributor Ken Hall has no position in any of the stocks mentioned. The Motley Fool Australia has recommended oOh!Media Ltd and REA Group Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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When hunting for a good dividend yield most people invariably invest in large caps or blue chip stocks. This makes sense in a rational world. Large caps are often less likely to disappear and are most likely to pay a reliable dividend.

However, if you are willing to take some risk and do the homework, then there are a lot of great opportunities for yields larger than 10%. In a higher-risk investment like this, I would restrict the commitment to $1,000, potentially split between the below 2 companies. That is because $500 is the minimum initial investment level on the ASX.

Mosaic Brands Ltd (ASX: MOZ)

I think this company is one of the real hidden gems on the ASX. Mosaic is a fashion retailer that owns a number of brands like Noni B, Rockmans, and W.Lane among others. The company lost its way for a while there and has experienced its fair share of ups and downs. However, it had a change of management in 2014 and has seen very impressive results from that point.

At its current price Mosaic has a trailing 12 month (TTM) dividend yield of 20.4%. It sells at a price to earnings ratio (P/E) of 6.3. In its FY19 report, the company reported sales just shy of 10% for its online presence. During lockdown, the company reported in a COVID-19 update an increase in online sales of 80% equivalent to the previous corresponding period of the year prior. 

Risks

Mosaic is likely to post a large EBITDA loss this FY and is hoping to return to profitability in FY21. Dividends are currently deferred and may not resume until H1FY21. The company’s position is precarious. If this goes well it will see a capital increase and a dividend yield of up to 20% on today’s price. If it goes badly you will lose $500.

Navigator Global Investments Ltd (ASX: NGI)

Navigator is the ASX-listed parent of alternative investment manager, Lighthouse Investment Partners, LLC (‘Lighthouse’), based in the United States. The company currently has approximately $12 billion in assets under management. 

Over 5 years the company has been able to achieve an average return on equity of 14.38%. This means about $14 in earnings for every $100 in net assets. This is a profitable figure. In terms of the company’s return on capital employed, Navigator has a 2 year average of 28.7%. So not only is this company very profitable it is also very efficient at making money.

Risks

The primary risks faced by Navigator Global right now is client redemptions. During the pandemic and as we move into a recession, the company’s clients in the US and beyond are likely to redeem some funds. The company is currently selling at a P/E of 5.32. Its share price is down by 57% year to date due, in large, to the coronavirus pandemic outbreak. 

Foolish takeaway

This investment strategy, if successful, will earn a dividend yield of around 19%. This is the reality of investing. If you are able to withstand the risk, then there are relatively large benefits. However, you must do your homework first. Make sure you have a very clear understanding of the risk. And lastly, make sure that you and your finances can take the downside.

More reading

• Why the Afterpay share price is up 20% in June
• Why Domino’s share price is smashing the market
• Down 15% in 2020! Why I like the Domain share price today
• A great ASX small-cap share for your watchlist
• Are these ASX 200 shares dirt cheap right now?

Motley Fool contributor Daryl Mather has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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My investing strategy allows me to keep a percentage of my shares in higher risk investments. Often, this means looking for ASX small-cap or mid-cap or shares that will compound well over time.  I tend to do a lot of analysis as I do not like to lose money. But then, who does?

While the share prices of many large-cap companies have already returned to their pre-pandemic levels, there are still a number of ASX small-cap shares that remain attractively priced. Here are my thoughts on one of them.

ASX small-cap retail

Discretionary retail companies have been among the hardest hit by the lockdown. Unlike the travel sector, however, there are already green shoots of growth emerging for discretionary retail spending.

Michael Hill International Ltd (ASX: MHJ) is a business familiar to most people. It operates in the $4 billion jewellery market in Australia. The company currently has around 301 stores globally and, in addition to Australia, has operations across New Zealand and Canada. 

In January, Citi rated the company as a buy and placed a target price of 80 cents per share on the Aussie jeweller. Its shares are currently trading at less than half this. In February, the company reported increases in same store sales for all stores across Australia and New Zealand. It also showed a willingness to close underperforming stores by closing down nine during H1FY20. 

Total revenue for the half was up by 4.4% versus the previous corresponding period. However, the company’s gross margin fell due to foreign exchange rates and gold prices.

Pandemic trading

Sales for Michael Hill collapsed in March when the lockdowns began with the company reporting an 11.9% reduction in sales across the group. At the same time, the YTD revenue across the company managed to increase by 0.6% due to strong performance prior to March. 

The ASX small cap saw its online sales increase dramatically during lockdowns, largely due to new digital sales technologies the company introduced in response to the pandemic. In fact, digital sales for Michael Hill during the week of late April and early May broke a new record for the company, outperforming a prior record digital sales week from Christmas 2019. This has resulted in a more focused effort by the company to increase online sales and customer acquisition moving forward. 

Michael Hill also remains focused on reducing its costs of doing business with a very lean goal of eliminating all non-essential expenditure.

The jewellery market

There is no doubt the jewellery sector is highly competitive across all three of Michael Hill’s geographic markets. In addition, fast fashion companies like Lovisa Holdings Ltd (ASX: LOV) are often competing for similar customers. As we move into a recessionary period, consumers are likely to have less discretionary income. Furthermore, Michael Hill may see its costs rise as the pandemic impacts its supply chain.

Foolish takeaway

Like many other companies that have adapted to the changing conditions as a result of the pandemic, Michael Hill has benefitted from an increase in digital sales. I believe continued focus in this area will counter the impacts of a general move away from mall shopping. Whilst I do not think this company will provide explosive, short-term growth, I do think this ASX small-cap share will continue to compound at a reasonable rate over the next 3 – 5 years.

More reading

• Coronavirus second wave potential could drive investment portfolio changes
• Here are 3 Australian share market trends to watch this week
• Short-sellers are stepping up their attack against these popular ASX shares
• Why the Lovisa share price is at risk of falling further over the coming weeks
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Motley Fool contributor Daryl Mather has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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