Pep Stores has been serving the mass market for more than 60 years and understands how important its value proposition is to customers when times are tough. That said, being 58% cheaper than the average clothing retailer is not a guaranteed pathway to profits when the economy is in lockdown, 2.2 million people have lost their jobs and consumer confidence is in the doldrums.

Pepkor CEO Leon Lourens estimates the group lost about R5-billion in sales during the hard lockdown, yet even with this setback Pepkor managed to eke out positive revenue growth in the financial year to 30 September 2020 with sales up 3.6% to R63.7-billion.

Gross margins fell 120 basis points as a result of the change in sales mix and to a lesser extent, stock provisions. This, combined with a hefty increase in bad debts and provisions — which saw debtors costs rise 48.3% to R1.7-billion — saw comparable operating profit decline by 18.4% to R6.5-billion.

Earnings were also affected by the R4.8-billion impairment of goodwill and intangible assets across PepAfrica, Shoe City, Tekkie Town and Incredible Connection. In the case of Tekkie Town, it is impairing R1.6-billion, more than half of its R3-billion value, suggesting that Steinhoff overpaid in 2016 for the shoe retailer.

Headline earnings, excluding the impact of IFRS 16, fell 21.0% to 75.4 cents. This is comparable to Mr Price, which reported a 24.8% fall in half-year headline earnings this week due to the impact of coronavirus lockdown restrictions, which saw the value retailer lose R1.8-billion in sales in April.

Under these circumstances, it is not surprising that no dividend was declared.

It is not for nothing that Lourens believes the group needs to maintain its core business of Pep and Ackermans — these businesses account for about 70% of revenue and 90% of group-wide operating profit.

The two chains reported sales growth of 2.6% supported by the opening of 145 new stores across the two brands — without which sales growth would have been flat.

The contentious Speciality division (Tekkie Town, Shoe City, Refinery), reported mixed results across its brands with weaker demand for adult footwear and more discretionary clothing. As a result, stores were closed and the group announced it was selling men’s formalwear brand, John Craig.

The furniture, appliances and electronics segment reported revenue growth of 1.4%, driven by increased demand for electronics and appliances as consumers work from home.

The standout performer of the year was FLASH, which provides payment devices to the informal market that enable a network of 146,000 vendors to sell airtime, data, electricity and Lotto tickets while at the same time collecting bill payments. Turnover growth was up 25.7%, albeit off a small base.

Inroads have been made at the group level where net debt has reduced from R14-billion in March 2020 to R7-billion at year-end, thanks to R1.9-billion capital raise concluded in June 2020 and exceptional cash generation of R9.2-billion in cash, with a cash conversion rate of 136.0%.

“These are decent results under the circumstances,” says Orin Tambo, senior investment analyst at 27Four Investment Managers. “In particular investors will be relieved to see the debt levels coming down.

“As management points out, the economic climate in 2021 will not be conducive to growth, and a strong balance sheet is essential.”

In terms of its portfolio review, the sale of John Craig, The Building Company and consolidation of the Africa business, which accounts for less than 5% of profits, will not move the needle.

“If one looks at the clothing businesses combined with the fintech businesses, Pepkor is an overwhelmingly mass-market business. Those that don’t fit include Incredible Connection and the furniture business, with the possible exception of Russels,” says Tambo. “It may make sense to divest these in the near future.”

Pepkor’s shares are trading at R14.21, a far cry from the R25.35 that they traded at shortly after unbundling from Steinhoff in September 2017, and ahead of the R10.45 they slumped to in August 2020. BM/DM