Dis-Chem’s purchase of a small loss-making business to expand further into insurance has caused some consternation around the health-care retailer’s broader strategy to build an integrated health-care ecosystem.
Based in the US, start-up insurance provider OneSpark was bought in a related-party transaction, with the founding Saltzman family and other Dis-Chem directors holding an interest in the business. Dis-Chem is investing R156m for a 50% stake, bringing in fresh capital to OneSpark, which made a loss for the four months to April of R25.3m.
There was some confusion about the transaction after the release of results last week. A number of irate shareholders and fund managers suggested the group is persisting with a complicated structure. Generally, the market also takes a jaundiced view of related-party transactions.
One shareholder argued that though the OneSpark transaction is immaterial for a R30bn company, it still raises a red flag. “They’ve just cleaned up their corporate governance concerns and now they’re buying a business from themselves started in 2020. I’m sure they think they’re being fair, but at face value it makes you scratch your head. The market is sensitive to related-party transactions; you don’t often see this kind of transaction in a company this size.”
Dis-Chem CEO Rui Morais tells the FM the Dis-Chem board members exposed to OneSpark are not directly involved. Rather, they are invested either in Global Capital, the fund that is invested in OneSpark, or in a fund that invested in various assets, including OneSpark.
Morais says the OneSpark asset was one of many businesses Dis-Chem tested in the market. “We engaged with traditional incumbents, the likes of Old Mutual and Sanlam. We looked at brands like King Price [Insurance] … We wanted to understand and get access to flexibility of intellectual property and cultural alignment, which we eventually found in the OneSpark business.”
He stresses Dis-Chem followed the normal governance framework to ensure the related-party individuals were not on the investment committee that voted for the transaction.
“We’re obviously buying a solution in terms of a piece of software. What we were looking for at the time was a software that catered to or that was able to be flexible in terms of the type of life products that we want to deliver … very novel life insurance products in the life space that could cater for flexibility, continuous underwriting … elements that would differentiate our products from the market.”
Morais adds Dis-Chem has also bought into an existing team of operational shareholders who are best in class — “actuaries who had built products for some of the larger incumbents in the market”.
Then there is an existing book of life policies that have been sold into the market and will ultimately be converted into the Dis-Chem life brand.
They’ve just cleaned up their corporate governance concerns and now they’re buying a business from themselves started in 2020
He says OneSpark is an innovative life insurance business. “We will only invest in products and businesses that can be seen through a health-care lens.” Dis-Chem already owns 25% of Kaelo, which sells other insurance products.
“We’re very excited about the OneSpark transaction. It’s aimed at increasing access, reducing cost and ultimately delivering better health outcomes. A portfolio of products will come to the market over 18 months and we are excited about the evolution of products and the brand.”
An equity analyst points out that Dis-Chem has done a lot more corporate activity outside its core retail pharma business relative to rival Clicks over the past decade. He says rollout of stores would provide more of an uplift over the medium term, while the move into insurance is likely to be more of a long-dated story. “The success depends largely on the store footprint and the branding resonance with the consumer, and this improves as it rolls out more stores and reaches the mass market consumer.”
The analyst reckons the market views the related-party transaction with caution because Dis-Chem had been delinking itself from the founding family. “It’s a bit strange [that] they’ve gone back with the related party as they’ve been trying to delink … the question many would ask is: was there no other company that could do the same?”
A fund manager maintains there is also no clear strategic reason for a pharmacy retailer to sell life insurance and funeral cover. “You can make an argument for why there are the medical insurance ties … but life insurance is a big stretch.
“I believe OneSpark was desperately running out of funding without this transaction. It would be good to know how many lives are insured, and what the acquisition implies each policy is worth.”
Aeon Investment Management chief investment officer Asief Mohamed says Dis-Chem has done a couple of related-party transactions since listing. “Dis-Chem obviously talks about insurance to ensure it differentiates itself from its closest peer.”
Dis-Chem obviously talks about insurance to ensure it differentiates itself from its closest peer
— Asief Mohamed
He says the clinics and virtual doctors are part of the ecosystem possibly preparing it to be at the forefront of National Health Insurance (NHI), while the insurance side could come under pressure from NHI.
Anchor Capital head Peter Armitage says the group wants to play at the lower end of the market and create a solution in the medical scheme arena. But he adds the medical aid element is making it harder to offer health products. “It’s a regulated industry with a lot of noise and uncertainty.”
Armitage says Dis-Chem has been a disappointment in terms of the growth rate and numbers are below what people would have expected, “but there’s more positivity about prospects”.
In its financial results to end-February, Dis-Chem disclosed turnover grew 11.1%, driven by retail (up 9.7%) and wholesale (up 13.3%). Comparable pharmacy store revenue growth was 6.9%. Dis-Chem opened 15 retail pharmacies in the year, taking the total pharmacy number to 273. These new stores were mostly in Gauteng. The Competition Commission has also approved the purchase of the 63,000m² distribution centre in Gauteng for R502m.
At bottom line the group reported a 1.6% decline, after the previous year had been bolstered by Covid vaccine administration and testing services. Headline earnings fell to 114.7c a share, but the dividend of 22.49c a share was up 21.9% from a year ago.
Dis-Chem still has designs on being the country’s largest pharmacy by market share, and now holds a 24.6% market share nationally. Dis-Chem Gauteng’s pharmacy share is 35.9%, while it says its largest competitor in Gauteng (Clicks) has a market share of 21.6%.
Dis-Chem plans to replicate its Gauteng property strategy in certain geographies. Morais says there is a relationship between the front shop market share and the pharmacy market share. “This means if we can attract the script and we price well in the front shop, it spurs sales.”
Overall, Morais stresses the Dis-Chem of the future will always stay true to pharmacy retail. “But as we try to differentiate ourselves as a business and a brand and stay true to the mandate of lowering costs and improving access, it’s more and more important to think about how we get to integrated health care.”
Interestingly, it sees an opportunity to play in the NHI space down the line, especially with clinics as the lowest-cost entry point into the health-care environment.
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