Shoprite undershoots, fresh buying opportunity if you missed the bull run
Shoprite's financial results for the year to end June were greeted with some concern by investment analysts, Old Mutual's Jeanine van Zyl among them. After dropping 8% at one point, the stock stabilised in later trading but still ended just over 5% down on the session. CEO Whitey Basson reckons analysts may have over-reacted, perhaps because they didn't have the full picture, and Van Zyl suggests in this interview that there was a fair amount of detail that she's like to see before being able to make a proper call. But for investors who missed out on the retailer's long bull run and have been eyeing the price's pullback of the past year with interest, a careful reading of this and the interview with Basson will provide encouragement. Especially the section where Abiola Rasaq provides his extremely upbeat perspectives from West Africa. – AH
ALEC HOGG: Shoprite recorded its lowest annual profit growth in 15 years. It's released the results, for the 12 months, to the end of June today and the share price has tanked. Other share prices in the retail sector have gone on a sympathy strike as well. Jeanine van Zyl, Senior Industrial Analyst from Old Mutual, Investment Group Equities joins us now. Jeanine, seven-and-a-half percent drop in the share price . A sympathy strike in other retail shares. Clearly the investment community was not expecting these numbers.
JEANINE VAN ZYL: No, they definitely weren't. I think the expectations were, at least five-percent higher than what we saw coming out, and for a variety of reasons. We all know that the consumers are in trouble but I don't think everyone quite expected that Shoprite would take such a GP (gross profit) margin cut and, on top of that, have costs rise so much. On second thoughts, we probably should have expected some of that. They are expanding aggressively, so their costs, particularly depreciation costs, will increase dramatically but I'm not sure that everyone had quite that built into their models.
GUGULETHU MFUPHI: Jeanine, maybe if we can contrast the local operating environment versus Africa, how is Shoprite performing in both arenas?
JEANINE VAN ZYL: Yes, well Africa still grew quite strongly. It grew, on a constant currency basis, at 16-percent. Obviously much more than that if you take into account the fact that, the Rand depreciated. But let's look at the 16 percent. That's a decent growth and about ten-percent of that would be space growth, so they are still rolling out stores quite strongly, in Africa.
But I think the disappointment there is actually the profit growth there, well it was zero for the second half.
Given that, Africa is where we are all looking to for the growth in Shoprite; I think that's a big disappointment. South Africa – that was also a little bit disappointing but, on the top-line, actually quite strong. Still an eight-point-seven percent growth on the top-line and a slight margin decrease.
What I found interesting on that part was that they talk about having passed through only four-percent of food inflation, when we know that food inflation is higher than that. At roughly six-percent, so they are really, holding back price increases, to try to maintain the volumes, and that just shows; a retailer only really does that when things are really, tough out there, and South Africa, the economy is, obviously still very tough in their target market.
ALEC HOGG: Jeanine, would you unpack that a little bit more? Zero growth from Africa in the second half. That's a bit of a jolt.
JEANINE VAN ZYL: That's on the profit line and that's really, if you really split it out into all the detail, it has largely, got to do with the fact that they are rolling out aggressively and there are a lot of or very, high depreciation costs that are coming through. They've taken a big leap in the second half, so operationally, still doing well. We haven't seen the GP by geography, so we can't really say whether they've had to take cost cuts there, or GP cuts, but we can see the depreciation has grown a lot. I think that mostly applies to Africa. I wouldn't say that we'll see that, going forward. I think we're going through a ramp up and, maybe the next year will be another ramp up but in time that geography will have to start reverting, back to higher margins but the faster you grow, the less you can push margins, so I think, right now, they're in that phase.
ALEC HOGG: Perhaps you can also just give us some insight into the expansion because Shoprite tells us that they are investing heavily. How much of that is South Africa relative to other geographies?
JEANINE VAN ZYL: We haven't been, given that split. We did see a heavy investment. I think we saw R3.5bn investment in the year, of which R2.5bn… In fact, more than that, I think R2.9bn was for new operations and only and about R600m was for maintaining operations, so we can see it quite clearly, on the overall numbers. We do know that their intention is to grow into Africa, so I'm really making some assumptions as to how much hair belongs to Africa, and how much belongs to South Africa. Even some of the South African investment will, actually apply to Africa because they're expanding their distribution centres and just to be able to service Africa, until they get distribution centres in those areas, so I can't give you that categorically, Alec, because we haven't been given the information. We are really making some assumptions here.
GUGULETHU MFUPHI: Jeanine, maybe if we focus on their furniture business and that unit, also managing to perform a lot better. The contrast between this and maybe Ellerines?
JEANINE VAN ZYL: Yes, it is much better and actually, their sales growth is surprisingly good, especially in the lower market chain, OK Furnishers, where you really wouldn't have expected it to be so good. There, I think, sales growth was about 17 percent, of course, some of that is space growth, but the real turnaround there, on the profit line, is really because they have done quite a bit of restructuring, or they did last year in their higher-end brand, in The House and Home. Now, finally we are starting to see that reverse in the numbers and the profits coming through. Still, having said that, it is not a very, profitable part of the business, and really, they should be focusing on the FMCG, which they are really good at.
ALEC HOGG: Jeanine, stay with us because we are going across now to find out the West African view, and Abiola Rasaq, who is Head of Strategy and Research at Associated Discount House. Abiola, just give us your perspective on this. The South African view is not too good in the home market, of Shoprite. Clearly, we hear a lot about Shoprite's operations in West Africa. How are you reading the numbers?
ABIOLA RASAQ: Thank you very much for having me. I think the numbers from the West African market is looking good, but I think it is very important to appreciate the opportunities that we have here, in the West African market, particularly as Shoprite begins to formalise the retail market. I'll give you a simple instance of Shoprite operations in Nigeria, for instance, which is the biggest market for them in West Africa. This is a market with about 172-million people and, of course, middle-income class is even growing faster than the overall population growth. I think it is important to note that a significant penetration of Shoprite over the last three years to about ten stores in Nigeria.
People are not at that level here in Nigeria, for instance and the same goes for the West African markets like Ghana. I think it is also very important to note that, yes, the consumer wallet is pressured in Nigeria but I think people are getting more, and more comfortable with formalised, retail stores, like Shoprite. The attraction for that is the convenience and the value for money that it brings. I think Shoprite could continue to play off this appetite of the middle-income class, which I said is growing faster than the 3% population growth in Nigeria and the rest of the West African market. Beyond that convenience, I think the opportunity to also get value for money, is one of the things people actually buy into, the brand of Shoprite.
Of course, these things are very important for people in Nigeria here, and as you continue to see the formalisation of the retail market, I think that Shoprite will continue to grow its footprint in Nigeria. I do expect that they would open up in some other locations in Nigeria, for example, over the next couple of months.
ALEC HOGG: Abiola, just a very quick one. We saw that MTN had an almost infinite runway when it first went into Nigeria. Is Shoprite in a similar situation? At the moment that it really does have a lot of growth potential before it starts hitting into the pressures that come with competition, etcetera?
ABIOLA RASAQ: Yes, that might happen but I don't think that would happen in the near time. You'd actually appreciate the fact that MTN still remains the market leader in Nigeria today, with almost about a 42 percent market share, within the Nigerian telecom space. That is quite a big voice segment. Beyond that, I think it is very important to actually notice that we are still in the very, early stage, in the formal retail market in Nigeria. The telecom space actually grew very fast, and I think the level of investment and competition that we've seen in that space… I don't expect that in the next one or two years, or even in the next five years, in the formal retail market.
The formal retail market is still very, very young and I think Shoprite is taking a very good opportunity, in taking the lead within that space. Yes, we do have a couple of competitors in the market, in addition, of course, the convenience stores, the labelled stores, are also beginning to expand further, to rush into the opportunity that we have, in the formal retail market in Nigeria.
ALEC HOGG: Abiola, thank you. Abiola Rasaq is the Head of Strategy and Research at Associated Discount House. Nice insights.
GUGULETHU MFUPHI: Very interesting insights. It does seem as though they are poised for very, strong growth there, Alec. One thing that also interests me, and Jeanine maybe we can close off, getting your insights here, is that recently we saw Spar making its announcement, regarding a BWG in Ireland. Is this a new growth area maybe again for retailers in comparison to Woollies going to Australia?
JEANINE VAN ZYL: Well, I wouldn't have chosen Ireland as my first port of call, if I was wanting to expand. It all depends, I suppose, on the price that they are paying for it but Ireland is not a growth market and the whole of the U.K. is coming under intense pressure, from Lidl and Aldi, which are really discount retailers, and Spar is not a discount retailer. Even Tesco's, and Sainsbury's, all of them are really losing market share to the discount retailers, so I would really not think that that is the obvious expansion plan.
GUGULETHU MFUPHI: Well, that's where we leave it. Thank you so much to Jeanine but maybe to sneak in this one quickly, Jeanine, do you think Spar has made the wrong acquisition there, in Ireland?
JEANINE VAN ZYL: I think time will tell, whether it's the wrong acquisition. I think they got it relatively cheaply, so from that point of view it is looking good, but really, it is not growth. I wouldn't look at it as a growth market.
ALEC HOGG: Jeanine, I think you're going to be wrong on that one because we had the CEO of Spar telling us that the only reason they got the inside track on Ireland, was because he serves on the same Board as the Irish guys. Let's hope that the Spar adventure, into South-West England and Ireland, in fact does give a good delivery for shareholders. Thanks Jeanine. Jeanine van Zyl is the Senior Industrial Analyst from Old Mutual, Investment Group Equities.