Steinhoff: More to come

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Steinhoff (R35.9) has been a frus­trat­ing share for many in­vestors over the years – it has al­most a l ways been cheap, but it s de­trac­tors will point to his­tor­i­cally poor lev­els of dis­clo­sure, a debt-fu­elled ac­qui­si­tion strat­egy and con­se­quently, a bal­ance sheet com­pris­ing sub­stan­tial good­will as rea­sons not to own it. There is ev­i­dence that this view has been fairly widely held – while Steinhoff ’s share price has ac­tu­ally per­formed sim­i­larly to the broader mar­ket over the past 10 years (fig­ure 1), there have been pro­tracted pe­ri­ods of sharp un­der­per­for­mance.

Per­haps a more telling in­di­ca­tion of in­vestors’ im­pres­sions of this busi­ness is the stock’s P/E ra­tio rel­a­tive to sim­i­larly sized busi­nesses and the mar­ket as a whole – this busi­ness has traded at a deep dis­count for years.

We have been bulls on Steinhoff for some time, not be­cause we think it’s the best busi­ness in the world, but sim­ply be­cause it was far too cheap. When it was back in the mid-R20s ear­lier this year, we took the stance that the share price was not pric­ing in our ex­pec­ta­tions of a sig­nif­i­cantly bet­ter sec­ond-half fi­nan­cial per­for­mance, driven by 1) im­proved Con­forama (their French fur­ni­ture re­tailer) mar­gins as a re­sult of cost-cut­ting mea­sures and bet­ter pro­cure­ment, and 2) a sig­nif­i­cantly weaker rand in the sec­ond half (75% of Steinhoff ’s earn­ings are de­nom­i­nated in cur­ren­cies other than the rand, prin­ci­pally the euro).

This view has sub­se­quently been vin­di­cated, with the group re­port­ing 25% HEPS growth for year to June 2013 (1H13: +5%) and the share price ris­ing by 53% since its re­cent lows in May. De­spite this per­for­mance, we think there is more to come – f irst, given cur­rent ex­change rates, the group com­mences FY14 with a fur­ther ~15% tail­wind to its rand re­ported earn­ings, and we think its un­der­ly­ing Euro­pean op­er­a­tions should de­liver fur­ther im­proved mar­gins and earn­ings in eu­ros. A rea­son­able earn­ings fig­ure for the 2014 fi­nan­cial year is R4.50/share, plac­ing the stock at a sub-8 times P/E less than a year out. Sec­ond, Steinhoff ’s man­age­ment has for some time spo­ken about its in­ten­tion to sep­a­rately list the group’s Euro­pean fur­ni­ture op­er­a­tions (pos­si­bly on the LSE) – we think the tim­ing is be­com­ing about right to do this (in­vestors’ ap­petite for Euro­pean as­sets is prob­a­bly im­prov­ing, al­beit off a low base) and we think this could well hap­pen over a time hori­zon of six to 12 months, pro­vided global eq­uity mar­ket con­di­tions re­main fairly be­nign.

In our view, a sep­a­rate list­ing for the ‘ de­vel­oped mar­ket’ as­sets will pro­vide in­vestors with fo­cused ve­hi­cles pro­vid­ing ex­po­sure to Euro­pean re­tail on the one hand, and the group’s South African as­sets on the other, and could un­lock value via an im­proved over­all rat­ing.

What would be the cor­rect P/E mul­ti­ple to place on the Euro­pean as­sets? Given the short­age of l isted peers ( Ikea, the largest Euro­pean fur­ni­ture re­tailer, is pri­vately-owned) we’re not en­tirely sure, but we think the cur­rent 7-8 times is too low. We be­lieve one could jus­tify P/E mul­ti­ples of 10-13 times for th­ese as­sets, and it should be noted that 20% of the group’s cur­rent earn­ings base com­prises rental in­come on re­tail prop­er­ties it owns in Europe – we think th­ese as­sets could be val­ued con­ser­va­tively at a 7% gross yield, while the cur­rent 8 times P/ E on Steinhoff im­plies at least a 12.5% af­ter

tax yield be­ing placed on this in­come. On this ba­sis and tak­ing the group’s listed SA as­sets ( JD Group, KAP and PSG) at face value, Steinhoff could be worth at least R44/share and pos­si­bly north of R50/share. The ba­sic mes­sage – don’t base in­vest­ment de­ci­sions on where the share has come from; we think sub­stan­tial up­side po­ten­tial re­mains.

Sean Ash­ton is the CIO at An­chor Cap­i­tal.

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