The Finance Ghost: Famous Brands and The Foschini Group need more focus

What do you get when you combine a slow-growth, high-risk South African economy with management teams who are incentivised to keep rolling the dice in pursuit of growth? That’s right, you get offshore expansion strategies. Yay!

Except, for the most part, they suck. It’s hard enough to build a business in a market you know and understand. It’s infinitely harder to do it overseas. There are truly only a handful of exceptions to this rule, such as Bidcorp and OUTsurance (there are others). In both cases, taking the slow and steady approach proved to be the right one. At Bidcorp, they’ve used multiple bolt-on acquisitions to supplement solid underlying organic growth. At OUTsurance, they built an Australian business from scratch and made a huge success of it, which is particularly impressive when you remember that Australia has been a graveyard for South African capital.

In the past week, we saw two examples on the local market of large groups that would probably be larger (in market cap at least) if they just stuck to their knitting and focused on where they can actually win. Famous Brands has shed 20% of its value year-to-date. Before you let that shock you, The Foschini Group is down 40%.

Yikes.

Let’s dig into the recent updates to figure out why this is happening.

Famous Brands: Too many cooks in this kitchen

In the frothy days of the JSE in 2016, Famous Brands traded at more than R165 per share. Today, it trades at around R55, having shed two-thirds of its value over nearly a decade. You might be tempted to blame the pandemic, but the truth is that Famous Brands was already well below R80 coming into 2020, when disaster struck.

Aside from a valuation unwind that plagued many companies on the JSE, there was another reason for the sharp decline: poor capital allocation decisions. One of the worst was Gourmet Burger Kitchen, a UK-based acquisition in 2016 that eventually ended in financial failure in 2020. The pandemic was just the nail in the coffin for that disaster.

Today, Famous Brands is a more streamlined group, but that’s not saying much. It is  still sitting on far too many businesses in my opinion, with several operations that barely seem to make a profit.

Read more: The Finance Ghost: The market lowdown on Cashbuild and Famous Brands

For example, I get the argument that having the sauces and other branded products in grocery stores can reinforce the brands and improve sales, but is there really a net benefit to having a working capital-hungry retail business that generated a loss of R11.6-million from revenue of R171-million for the six months to August? Sure, the logistics business also has tight margins (1.1% operating profit margin), but this is core to servicing the franchisees who are running Famous Brands’ restaurants. There’s no debate about whether they need the logistics play. The same can’t be said for retail.

Another obvious pimple is Signature Brands, the segment of full-service restaurants that offer a more upmarket experience. This segment lost money in the comparable period and in the latest period, with operating margin actually getting worse (now at -7.0% vs. -6.7% in the prior period). 

Wimpy UK is another mystery. Five restaurants were closed in this period and only two were opened, so the stench of death for this business is apparent. Operating profit was just R1-million at a margin of 2.2%. The upside is clearly limited, yet the potential to slip into a loss-making position is there. Why would investors ever feel good about this?

In Leading Brands, the core strength at Famous Brands with the quick-service restaurant brands, like-for-like sales were up by just 2.6%. At least franchises are lining up for new stores, with 53 new restaurants and 10 closures. Only 27.8% of the new stores were allocated to existing franchise partners, so there are many new restaurateurs coming on board. Despite this positive momentum, operating profit was flat at R238-million. It would surely be better if management wasn’t distracted by the loss-making segments elsewhere.

The star of the show at the moment (which isn’t saying much) is the manufacturing business, where revenue increased 10.8% and operating profit jumped by 23.6%, as margin moved up from 9.3% to 10.4%.

There are clearly parts of the business that are working. There are others that are not. Famous Brands is a perfect example of “diworsification” rather than diversification. Until this gets cleaned up, the valuation will reflect the inherent risk.

TFG: So much for positivity at capital markets day 

At the beginning of August, The Foschini Group (TFG) hosted a capital markets day that promised a bright future for investors.

For example, in presenting the medium-term targets out to 2028, TFG shocked the market by targeting a 12.5% compound annual growth rate in sales at TFG Africa. Yes, this is the best part of the business. No, nobody believes that 12.5% is possible – at least nobody outside of the TFG management team. It does nothing at all for TFG’s credibility that in the six months to September 2025, TFG Africa grew sales by just 5.3%. That’s less than half of the CAGR it has targeted. These things may not go up in a straight line, but this is like lining up for a competitive 3km race and then realising after the gun went off that your shoelaces are untied.

Read more: The Finance Ghost: Why homegrown is the hero when it comes to retail shares

As I wrote extensively at the time of the capital markets day, getting anywhere close to this level of growth in South Africa will require exceptional focus. Alas, TFG has many other distractions, such as the highly problematic business in Australia, which saw its earnings before interest and tax (Ebit) drop by 18.4% in this interim period. 

The UK is also a headache, with sales up just 0.7% in that business, if you exclude the acquisition of White Stuff. Including White Stuff paints a much rosier picture of course, but simply going out there and acquiring revenue isn’t a measure of success. These deals also don’t come free, with finance costs doubling year-on-year thanks to the debt required for the White Stuff acquisition.

Overall, the group has flagged a drop in headline earnings per share of 20% to 25% for the six months to September. The market violently punished this update, with TFG down 18% over five days. The share price is back where it was in December 2020 when there were still global lockdowns. Food for thought. DM