Mr Price: a strong festive foundation

With the eyes of the world on South Africa for the G20, it’s a good week to feel proud about our country (warts and all). We certainly have our problems, but we get to live and build in a place that has global relevance and related opportunities.

The JSE and even the rand have a good story to tell this year, not least thanks to the incredible strength in the gold mining sector. We even have new listings on our market in exciting sectors like fintech, a welcome change from the seemingly endless run of delistings from the JSE.

But it wasn’t always like this. If you go back a decade or so, corporate management teams were doing everything possible to take capital out of the country. This behaviour wasn’t just tolerated by institutional investors – it was encouraged. The Lost Decade was an extremely dark time for our country, and the smart money looked elsewhere for returns.

The theory around the importance of gaining offshore exposure was absolutely right. The global technology sector created generational wealth in the past decade, while the JSE has only recently started to show some signs of life again. But trying to achieve that exposure by incentivising local management teams to go off and do offshore deals turned out to be a mess.

For whatever reason, the retail sector has borne the brunt of misguided global capital allocation. There are many examples, ranging from immense disasters (Woolworths – David Jones and more recently, Spar in Poland) through to slow-burn problems that destroy shareholder value without necessarily making it into the headlines.

With many local retailers still dealing with the hangover of weak, capital-hungry offshore operations, we turn our attention to a focused South African retailer that wants to win in its home market: Mr Price. It certainly isn’t the only JSE-listed retailer following this strategy, but it does follow a distinctive strategy of focusing on cash sales in a market where consumers are desperate for credit.

This is a good time to disclose that I currently have a long position in Mr Price. I’ve held the position for a couple of months. The latest results have reinforced my thesis and I remain happily long for now.

The rationale for this investment was fairly simple: Mr Price’s share price had tracked The Foschini Group and Truworths lower this year, but it felt like one of these was not like the others. This happens surprisingly often in the market – looking for the baby thrown out with the bathwater can be a rewarding strategy. Mr Price had been putting in much better performances than either of those other two names, yet the market was tarring it with the same brush. This piqued my interest and I’m glad that I hit the “buy” button.

Value retail (mostly) with a strong balance sheet

Mr Price has a relatively simple business model that avoids offshore distractions and overreliance on credit sales, with cash sales representing 88.2% of total sales. Although overall South African consumer health is obviously a factor in their business, I don’t need to worry as much about the quality of the credit book and whether underlying themes in South Africa such as buy-now-pay-later (BNPL) adoption and online gambling will ruin the party.

Although the model isn’t as focused as what you’ll find at Pepkor, Mr Price has an overall flavour of value retail in its business. This means that it appeals to South African consumers looking for affordable fashion. Yuppiechef is the outlier in the group, with an average spend per transaction of R1,228. Power Fashion sits right at the other end of the spectrum at R225, while the namesake retail banner (Mr Price) has an average spend per transaction of R423.

Despite following an acquisitive strategy to build this particular mix of businesses, Mr Price currently has no debt on the balance sheet. It has also made progress on its working capital in the latest period, helped by more predictable port operations in South Africa and a clean exit of winter. That’s just a fancy way of saying that it didn’t end up with tonnes of end-of-season clearance stock that hurt margins. The seasonal inventory at clothing retailers means that they are always in a race against time to maximise full-price sales at the start of the season and then minimise clearance sales at the end.

This is a solid foundation from which to build and compete. As we head into the all-important Black Friday and festive season, it’s all about being in the best possible position to win.

Disciplined growth

South African consumers are highly sensitive to price, so local retailers can boost growth by cutting prices. Of course, this does no favours for margins, which is why you can see completely different outcomes for net profit despite two clothing retailers growing sales by relatively similar percentages. This is why you always need to view sales growth in the context of gross margin.

Mr Price makes it clear that it is looking for margin-accretive gains, not just higher market share. This comes through in the numbers, with revenue up 5.4% and gross profit up 6.3% in the interim period ended September. By the time we reach the bottom of the income statement, we find HEPS growth of 6.5%. That’s a solid shape to the numbers that indicates a business in good health. The same certainly cannot be said for some of the other major retailers in South Africa, where margins are dropping and so are profits.

This festive season is going to be fascinating. The sector is facing a strong base period that included the boost from two-pot withdrawals. The interest rate cut will certainly help, as will a general feeling of optimism in South Africa. For the first seven weeks of the new period, Mr Price has achieved encouraging sales growth of 3.1% against that demanding base period. Also, the trend from October into November is positive.

There’s all to play for in this space, with Mr Price’s share price having now fully decoupled from The Foschini Group and Truworths. Of course, what I really want to see is a strong recovery in Mr Price that takes it closer to the more resilient performance shown by Pepkor this year. DM