Has Shoprite hit the growth ceiling?

Shoprite CEO Pieter Engelbrecht is clearly exasperated with South Africa’s dysfunctional state.

“South Africans are very resilient people, but, hell, they deserve better than this. This is not right, but we are doing as much as we can,” he tells the FM after the release of Shoprite’s results last week.

For example, the group absorbed R13.5bn in price rises at the tills for its financial year to help customers, who are increasingly shopping down as the cost of living soars. Costs for the retailer’s own account were huge too: R1.3bn spent on generator diesel (it had 322 days of rolling blackouts) as well as an extra R185m in insurance fees, following the 2021 riots.

Yet Engelbrecht also talks of an “extraordinary year” given Shoprite’s 18% sales growth, to R215bn, and a record increase of more than R8bn in market share (up 140 basis points), the fifth year in a row it has taken business off other retailers.

Sales at its on-demand delivery service Sixty60 were up 81.5%, while furniture sales grew 5.1%. Checkers, which caters to the middle and upper end of the market, now sits just short of 15% market share in the grocery category, while Shoprite is at just under 20%.

“It’s almost a natural hedge in the South African context. As debt levels differ then one brand will do better than the other. If fuel prices come down, the one will do better than the other”

—  Pieter Engelbrecht 

While there is a 60/40 percent split between Shoprite and Checkers in terms of revenue, it’s a 50/50 profit split. “It’s almost a natural hedge in the South African context,” says Engelbrecht. “As debt levels differ then one brand will do better than the other. If fuel prices come down, the one will do better than the other.”

Load-shedding was the single biggest drag on Shoprite’s actual profit growth: from double-digit turnover it managed only a 9.6% rise in headline earnings per share; its diesel bill, as it was at pains to point out, means lower returns for shareholders and money to its employee share trust.

Asked if its cash would not be better spent on long-term alternative power, Shoprite says it has installed 34.13 megawatt peak of solar PV capacity, enough to power more than 4,800 households for a year. It will continue to roll out solar PV systems wherever it can, but much depends on availability of roof space, roof strength and permission from landlords.

Yet the company shows no signs of slowing its expansion. It opened 340 new stores in the 52 weeks to July 2 — not as many as Engelbrecht would have liked, but electricity and water issues slowed down the rate of openings. He argues that there is further room for Shoprite to increase its market share — partly through acquisitions, though competition issues make it tricky to buy more locally,

Its purchase of the Cambridge grocery stores from Massmart was a drawn-out process that, says Engelbrecht, led to a devaluation of the stores and more than 4,000 jobs lost in the time it took to finalise the deal. Those 92 stores are now, however, giving sales numbers a boost.

Shoprite has also swooped on 32 Choppies stores in South Africa (which have no relationship to those in Botswana) and converted them to OK Grocer, as well as 28 Jwayelani stores, which will retain their brand.

The stores come on board as franchises, which Shoprite will help with replenishment agreements for stock, training and technical support, as well as initial capex funding.

Engelbrecht had looked at the listed owner Choppies in Botswana twice before, but nothing came of it. The Choppies stores it has now bought are in North West, Limpopo, Gauteng, Mpumalanga and the Free State. Jwayelani has 26 supermarket and butchery stores in KwaZulu-Natal and two in the Eastern Cape.

Shoprite has beefed up ancillary services such as outdoor, pet, baby and clothing. It’s allocated R8.5bn on capex this financial year, up from R6.8bn, for shop refurbishments, the rollout of new stores and more warehouse space.

Whether Shoprite’s expansion will lead to higher margins is a big question for investors. The company’s trading profit margin dipped to 5.5% from 6.1% last year, though that level still makes it one of the most profitable food retailers in the world.

Retail behaviour research shows that among its 27.8-million customers, more are now choosing less expensive items. Private-label brands have also grown more than the average of the stores and the group is placing more emphasis on this. (Yet its high-end Forage & Feast brand has, simultaneously, been named one of Nielsen IQ’s Top Breakthrough Innovations for 2023 in South Africa.)

The pressure on margins, says Investec, is an issue for investors, who are unlikely to pay much more than a 20 p:e for the stock, considering the maturity of the South African grocery market and macroeconomic conditions.

“This limits the upside we see from current levels despite our expectation that the group will continue to take market share over the near and medium term,” says the bank, which has downgraded Shoprite to “hold” from “buy”.

A research note from JPMorgan also points out that like-for-like growth of 10.3% was driven by 10.1% inflation, implying flat volumes. The note says despite the relative defensiveness of food retailing, increased costs of load-shedding have introduced a measure of earnings uncertainty.

“Though we expect Shoprite to gain market share over its peers in the near term amid the load-shedding crisis, we believe the earnings expectations have not fully factored in Shoprite’s own earnings risk, particularly from FY24 onwards.”

Alec Abraham, senior equity analyst at Sasfin Wealth, says the nongrocery extensions to the business such as pets, baby and clothing are generally higher margin. “So, to the extent that these higher-margin categories grow as a percentage of sales, they could potentially increase margins.”

But Casparus Treurnicht, portfolio manager at Gryphon Asset Management, sees the retailer facing an uphill battle with margins. There may be new store rollouts, but these take a while to reach optimal profitability. He says load-shedding, security and other operational expenses are increasing (though if load-shedding ends tomorrow “they might win back a few points”).

“But don’t count on it. In this country with our government there is always something new the moment one issue is resolved.”

Treurnicht also acknowledges the new lines of business where margins are higher. “But on a like-for-like basis in their groceries division I believe the good old days are gone for now.”