Why short sellers are betting on BWX Ltd's share price falling further

Why short interest in BWX Ltd (ASX:BWX) is climbing higher.

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Personal care product manufacturer and distributor BWX Ltd's (ASX: BWX) share price fell 7.7% on Monday. The share price has rebounded 1.8% in early Tuesday trade to $2.82. However, the BWX share price is still down 15.6% following the release of a trading update on October 29.

The trading update disappointed the market with the company forecasting for normalised FY19 earnings before interest, tax, depreciation and amortisation to be flat at $40.3 million. The market had expected an increase in FY19 earnings because FY19 would include the first full-year contributions from the 2017 acquisitions of Andalou Naturals and Nourished Life.

Short interest rises 

There has been a notable increase in the number of short sellers in BWX over the last couple of months. Subsequent to the release of October's trading update the level of short interest in BWX has climbed by 3.11% over the last month to sit at a very high level of 13.99% as at December 4.

There are currently only 3 companies with a higher level of short interest than BWX on the Australian share market, JB Hi-Fi Limited (ASX: JBH), Galaxy Resources Limited (ASX: GXY) and Syrah Resources Ltd (ASX: SYR).

October's trading update noted that BWX expects a 70% skew in EBITDA to the second half. In order for the company to hit its guidance, second half EBITDA would have to grow by 24% over the prior corresponding period. Judging by the market action, it appears the market remains skeptical on whether BWX can hit this target.

When you factor in the struggles of the company's flagship brand and highest margin segment, Sukin, some caution is warranted. Although Sukin delivered revenue growth of 6% in FY18 this was largely skewed to the first half. Revenue in the second half of FY18 was down 19% over the first half of FY18 and 5% lower than the prior corresponding period.

Foolish takeaway

BWX is currently trading for around 14 times FY19 earnings. The failed management buyout in 2018, underperforming acquisitions relative to initial expectations and decelerating growth in Sukin has seen BWX fall out of favour with investors. The high level of short interest is a concern especially if the bearish thesis plays out and the company cannot hit its numbers.

However, a high level of short interest can also be positive for investors if the company can deliver an earnings surprise to the upside when it announces its half-yearly results in February. A high short interest is stored buying power as the shorts eventually have to cover. In the event of an earnings result that surpasses expectations, a short squeeze is possible which could see BWX's share price bounce higher.

Motley Fool contributor Tim Katavic has no financial interest in any company mentioned. The Motley Fool Australia owns shares of and has recommended BWX 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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