Pepkor stages big recovery

Pepkor’s results for the year to end September 2021 show a huge turnaround in its fortunes during a very interesting and challenging year.

While management pointed out that headline earnings increased by some 115% and that it achieved and then surpassed its ambition to restore profitability to 2019 levels, the actual figures in the balance sheet show that the recovery was much bigger than management suggests.

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Profit for the year recovered from a loss of R2.86 billion in 2020 to R4.88 billion in 2021, although one should take into account that the major reason for the loss in the previous year was a huge write-off of goodwill. Goodwill was reduced by a massive R4.7 billion that had to reflect in the income statement.

However, the income statement also shows that Pepkor got things right. Revenue increased by 9% and cost of sales by somewhat less.

CEO Leon Lourens remarks in his commentary to the results that the total gross profit margin increased by 10 basis points to 34.3%. “From a retail perspective, gross profit margins increased by 40 basis points as a result of more full-priced sales and lower markdowns.

“The discount and value retail sectors continue to be favoured by customers due to reduced consumer income as a result of increased unemployment and the effects of a poor performing economy,” says Lourens, mentioning the fact that SA unemployment is on record levels.

Read: Pepkor’s 2021 performance surpasses pre-pandemic figures

Less in credit sales

Credit sales on store accounts is still only 7% for the whole of the Pepkor group. A benefit of high cash sales is that debtor’s costs (which include bad debts on credit sales) improved significantly – declining by nearly R1 billion compared to the previous, difficult year.

Finance costs also decreased, by nearly R1 billion compared to the previous year.

Strong cash flow enabled Pepkor to reduce debt and low interest rates did the rest.

Notes to the financial statements disclosed another windfall of close to R1 billion. “Favourable lease renewals, retail footprint consolidation and the derecognition of related right-of-use assets and lease liabilities pertaining to the acquisition of a portfolio of leased properties resulted in a total (IFRS 16) gain of R903 million in 2021,” according to the statements.

Pepkor announced in April that the acquisition of 12 leased properties from Steinhoff International Holdings received the necessary approvals and all related conditions were fulfilled. The transfer of 11 of the 12 properties was completed during the financial year.

Unrest and looting

Pepkor also received a total of R671 million from insurance companies as compensation for damages suffered in the July riots and civil unrest in KwaZulu-Natal. Management says an amount of R500 million for damage to infrastructure and stock losses represents only the initial payment of its claims, as does the R171 million received from insurers for business interruption losses.

Lourens notes that the civil unrest that erupted in the KwaZulu-Natal and Gauteng during July 2021 resulted in the looting of 549 stores across the group.

Read:

“As reported on 16 and 23 July 2021, this represents approximately 10% of the group’s total retail store base. One of the JD Group’s distribution centres in Cato Ridge, KwaZulu-Natal, was also looted.

“Trading was disrupted, with a number of stores intermittently closed in the affected areas as a precautionary measure to ensure the safety of employees and customers. In addition, the group’s supply chain and distribution operations were severely disrupted in the affected areas as the group took swift action to deploy extensive tactical measures to protect and safeguard its infrastructure,” says Lourens.

Pepkor had reopened 413 of the affected stores by end October 2021, some 75% of the affected outlets.

It is expected that 80% of the looted stores will be reopened by December 2021, with the remainder delayed due to infrastructure rebuild or shopping complexes that have not yet reopened.

“As previously reported, the group carries comprehensive insurance cover in terms of material damage and business interruption. An initial claim for material damage of R1.2 billion was submitted to South African Special Risks Insurance Association (Sasria) and an interim payment of R500 million (net of VAT) was received and accounted for in the results.

“An initial business interruption claim of R717 million was submitted and an interim payment of R171 million (net of VAT) was received and recognised. It is expected that the group’s insurance cover will mitigate the impact suffered from the civil unrest on the group’s results,” says Lourens.

Outlook

Management seems optimistic, despite noting that the retail market remains constrained as SA is confronted with record levels of unemployment.

“The full effect of Covid-19 is still playing out and having a major impact on consumers in the lower end of the market,” says Lourens.

“Sales growth has been under pressure during the first part of the new financial year. Performance compared to 2019, however, remains positive.

“Supply chain disruptions have impacted the group, resulting in increased costs and delays in product inflows. The backlog has been improving and stock levels are expected to normalise for the December trading period,” he says.

Pepkor’s share price reflects the changes in fortunes. The share price also more than doubled since the low of just above R10 when the JSE got a bad case of coronavirus at the beginning of 2020.

The current share price of just below R24 places the share on a price-earnings ratio of above 17 times.

Casparus Treurnicht, analyst at Gryphon Asset Management, says the share probably got a bit ahead of itself as the share price is up 30% compared to profit growth of 10.5% since 2019.

“Long term investors are probably going for this fish that is still growing in a shrinking, murky pond.

“My concern, from a margin perspective, is that everybody is going for the value segment,” says Treurnicht.

“Secondly, we’ve had tailwinds from the commodity sector and government employment – which looks like it’s peaked and could be turning.”

However, he adds that Gryphon is not very optimistic about the retail sector in general.

Read: SA rate hike could signal end of cheap money in region

“There is a big change that most tailwinds are becoming [a] headwind,” he says. Inflation is picking up and the SA Reserve Bank has started to raise interest rates.

Luister na Ryk van Niekerk’s se onderhoud met Pepkor uitvoerende hoof Leon Lourens: