Financial Mail - Investors Monthly
CASH BUSINESS
Cash is a better bet than credit as rates are likely to rise, but it still won’t be the cure-all for retail companies, writes Ron Derby
Consumer spending goes rapidly off the boil
The good-news story that was the credit-fuelled spending of the South African consumer over the past six years came to its abrupt end this year with the collapse of African Bank, the biggest unsecured lender in the country.
It was long in coming, but the slowdown in the economy caused by labour tensions (especially strikes in key sectors like mining and manufacturing) and poor global growth always foretold a story of rising unemployment and consumer indebtedness.
Despite the consumer woes, South African retailers and in particular cash-focused operators such as Mr Price had a spectacular year on the Johannesburg Stock Exchange.
Should strike activity not match the levels experienced this year, there should be a consistent flow of wages and salaries
The overall retail index gained over 16% for the year to November 20, driven by the Durban-based Mr Price’s more than 44% appreciation. The Foschini Group, which increased its cash business as a percentage of overall sales to 44%, managed just as spectacular a rise, up 43%.
Mr Price’s market value is now almost three times that of the combined market cap of the country’s three biggest construction firms — Murray & Roberts, Wilson Bayly Holmes Ovcon and Group Five.
Earlier this month, Foschini was raised to “outperform” from “neutral” by Credit Suisse.
The old adage “cash is king” is certainly the rule that followers of retail shares have stuck to over the
course of the year. Will it continue into next, or are there some rays of hope for those retailers heavily exposed to the credit consumer? If not, we should see a continued push to reduce store credit cards in favour of cash.
Next year “the consumer will remain under pressure and the more cash-based retailers will get better results”, says Alex Sprules, analyst at Imara SP Reid.
Retailers will continue looking to grow their cash sales as a component of overall sales as it is more defensive, he says.
Of the fashion retailers that haven’t managed to change their model, Truworths has been the laggard. Some 70% of its sales are credit-based and with borrowing being slowed down, its shares have been among the worst performers.
Shares in Truworths, whose founding chief executive officer Michael Mark resigned earlier this month, have declined 7.2% this year. Over the past two years, the retailer has plunged 28%.
“Credit is going to take a long time to recover,” Sprules says.
The environment isn’t going to get any easier for consumers next year, given the interest rate outlook for the country.
Though Reserve Bank governor Lesetja Kganyago didn’t raise rates in his first act as leader of the bank, the country is in a tightening interest rate environment, along with other emerging markets.
With inflation falling just within the bank’s targeted 3%-6% level and oil prices on the decline, the monetary policy committee decided to leave rates unchanged in its last meeting for the year.
Over the course of the year, the bank has raised rates twice — a combined 75 basis points — as the inflation dragon has raised its head on the back of a weakening currency.
Emerging market currencies have weakened as the US economy’s performance has improved, which has pushed investors searching for better growth prospects to buy into US assets. And in response to that improving economy, the US Federal Reserve has withdrawn quantitative easing. Markets are
South African retailers had a spectacular year on the Johannesburg Stock Exchange
now gearing themselves for a possible rate hike in the world’s biggest economy for the first time in close to a decade.
These developments have pushed emerging market countries to follow their lead by raising rates as well.
Interest rates “will go up in the second half of the year”, says Nedbank chief economist Dennis Dykes. “It’s going to be pretty much the same as this year.”
As gloomy as the conditions may be for South African consumption, which made up just over 60% of the country’s gross domestic product in the first half of the year, there is a smidgen of good news.
Should strike activity not match the levels experienced this year, such as the five-month platinum mining strike, there should be a consistent flow of wages and salaries.
This should support some level of consumer activity, but there won’t be the “big thrust” from the consumer that comes with growth in employment, Dykes says. We are “not expecting strong relief from employment growth”, he says. Unemployment decreased to 25.4% in the third quarter of this year from 25.5% in the second quarter of 2014.
Not all cash-friendly retailers have done well in markets over the course of the year.
Massmart, owned by Walmart, has had a pedestrian 2014, with shares in the company falling by just under a percent.
The focus for the company has been on getting a food offering into its Game stores, something which has run into difficulty. Rivals Pick n Pay and Shoprite have gone through the fine print in their lease agreements at some of the country’s major malls for a provision that prevents any of their rivals from offering food in their outlets. The scrap has “distracted them a little bit”, Sprules says. “When the Game brand was going into food, everyone got excited.”
The inability to deliver has put pressure on the share as its Game brand has been a long-time under-performer.
Shoprite hasn’t performed much better, also coming just under a percent weaker for the year to date. Pick n Pay, whose share has under-performed its peers for the best part of six years, gained 6.3% in value.
The lower end of the consumer market has been most affected by the decline in unsecured lending, a key demographic in its store portfolio. Along with a struggling shopper, Shoprite has had to battle for market share with Pick n Pay.
Shoprite will have opened over 107 stores by year end, while Pick n Pay, which has been struggling with a shrinking share of the market, opened 41 new stores in the first half of its financial year and plans to exceed that figure in the six months to March.
The Woolworths story for the past year has mostly been about its Australian expansion and consolidation of its local business.
Whether its four-man executive team will lose focus on its profitable local operations over the next few years is what the market most wants to know. Getting synergies to work at a distance of more than 11,000km is going to be a test. Over the year, Woolworths’ share has gained just over 10%.