By Claire Reilly

Harvey Norman issued its third quarter sales results yesterday, posting a year-on-year drop in profits of almost 25 per cent. According to the company’s chief financial officer Chris Mentis, the decline in profits could be attributed to increasing competition in the sector, particularly the discounting difficulties facing AV and IT franchisees.

“The unaudited profit results clearly show the impact of the aggressive competitor activity in the AV/IT sector,” said Mentis in a report to the Australian Securities Exchange.

“The franchisees have worked hard to maintain market share, however this has resulted in an increase in franchisee tactical support.”

As Current.com.au reported yesterday, this tactical support includes a range of measures such as reduction in rental costs and franchise fees and increased advertising support, enacted by Harvey Norman Holdings to ease pressure on franchisees.

In yesterday’s statement, Mentis emphasised that although there had been a downturn, franchisees were well placed to take advantage of consolidation in the industry.

However, a new report released by RBS equities today shows that Harvey Norman’s franchisee structure is being increasingly corporatized, with Harvey Norman Holdings exercising more power over individual proprietors.

In the report, analyst Dan Broeren said, “A number of questions in the analyst conference call [with Harvey Norman] focused on the potential fragility of AV/IT franchisees as competition accelerates.

“Management emphasised again today its intention to use the franchisors balance sheet to support franchisees through their working capital requirements.

“As such, we maintain the view that HVN maintains tight controls on franchisees to the extent that the model is effectively corporatized. The Australian store operational structure is becoming increasingly similar to the corporate model used in NZ.”

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In addition to these comments on the retailer's structure, Broeren posited that the “that current levels of acute discounting should abate”.

“As irrational discounting eases and with pending new product releases in the TV category specifically, earnings momentum should recover,” he said.

Despite this, there was still a risk that Harvey Norman could close more stores – specifically the recently rebranded Clive Peeters and Rick Hart stores.

“The Ex-Clive Peeters and Ex-Rick Hart stores have delivered improved operational results after having been rebadged as Harvey Norman,” said Broeren. “However, the improvement seems to be low and we estimate unlikely to be more than the marketing and head office costs saved by closing the Clive Peeters business.

“In our view, cannibalisation continues to be a major issue,” he added. “More than 50 per cent of converted stores have an existing store in the same suburb. As such, we would expect further store closures in future years.”