What Christo did next

Say what you want about Christo Wiese, he really is determined.

Once more he has his sights set on a merger between Shoprite and Steinhoff’s African operations.

He may, for the second time, have to walk away with nothing to show but defeat.

In the latest merger attempt by Wiese (Steinhoff’s and Shoprite’s largest shareholder) Shoprite would, if it succeeds, find itself controlled by a separately listed company, Steinhoff Africa Retail (Star).

It would bring together the R141bn annual revenue of Shoprite and the R80bn annual revenue of Steinhoff’s African retail operations, which include Pepkor, JD Group, Steinbuild and Tekkie Town.

The deal, which would give Star a 22.7% economic interest and 50% of the voting rights in Shoprite, had seemed to be destined for success, but has struck a potentially devastating obstacle.

Steinhoff, always one to raise eyebrows, is this time faced with allegations of malpractice levelled against it by Manager Magazin, a monthly German business publication of the influential Spiegel Group.

It reported that German prosecutors are investigating Steinhoff CEO Markus Jooste and certain other senior managers in connection with suspected accounting fraud.

Steinhoff continued: "We note that the source of some of the [published] allegations is a former joint venture partner with whom the group’s subsidiaries are embroiled in litigation." It concedes that the outcome of the litigation is likely to result in it having to compensate its former joint venture partner financially.

Manager Magazin’s allegations could be hot air, or a matter of where there’s smoke there’s fire. Whatever the case, the allegations have done Steinhoff serious credibility damage, as reflected in a 14% slump in its share price following their publication. Credibility damage could be enough to derail a key element of Star’s formation: a capital raising exercise by Steinhoff.

A second defeat for Wiese, who has a 23.1% stake in Steinhoff and a 15.93% stake in Shoprite, would be hard for him to swallow, but he could be facing just that.

The first merger attempt ended in failure in February when agreement could not be reached between the two companies on the share exchange ratio.

Shoprite CEO Pieter Engelbrecht enthuses about what the creation of Star could bring.

"We would immediately be able to start generating supply chain synergies in Africa with Pep," he says.

It could open up other opportunities.

"We could develop shopping centres in Africa to enable us to shut out our competitors," says Engelbrecht.

"With our brands we can offer food, clothing, furniture, fast food and footwear."

Is success or failure in the creation of Star the be-all and end-all for Shoprite as an investment? It would seem not to be.

"Whatever happens, Wiese will still control Shoprite and Steinhoff," says independent retail analyst Syd Vianello.

"It will make absolutely no difference."

Evan Walker of 36One Asset Management shares this view. "It will not affect Shoprite in the least. It will be business as usual," he says.

Business as usual right now finds Africa’s largest food retailer riding high.

In its 53 weeks to July 2, Shoprite defied what Massmart CEO Guy Hayward terms the "most difficult trading conditions in recent memory" to excel on all fronts.

Shoprite roared in to lift sales in its core SA supermarkets division by 8% to R101.7bn or 72% of total group sales. More pertinently, on a 52-week comparable basis sales were up 10.5% with volume growth adjusted for internal inflation up an exceptional 4.6%.

"Our fourth quarter was also the 64th consecutive quarter in which we achieved like-for-like [same store] sales growth," says Engelbrecht.

Growth in Shoprite’s latest year did not come at the expense of margin sacrifice. Group-wide, it lifted its trading margin to a record 5.76% from 5.6% in the previous year. It was a key factor in driving a 16.1% increase in headline EPS (HEPS) on a 52-week basis.

Shoprite’s latest showing has been greeted with loud applause from analysts.

"It put its opposition to shame," says Vianello.

"They were phenomenal results," says Walker. "I can’t fault Shoprite on anything. It is now dictating pricing in the market."

Shoprite is making full use of its power position and has a key strategy growing its SA food retail market share, which already stands at a dominant 31.9%.

In the rest of Africa, where Shoprite has 386 stores in 14 countries, Engelbrecht says: "We are determined to leverage our advantage. We have 21 new stores coming, 45 confirmed [to come] and another 166 potential stores."

African operations did well in the past year to lift sales 13.5% on a 52-week basis to R24.8bn. In constant currency terms sales
lifted 33.8%.

Best performer was Angola, where Shoprite now operates 30 stores.

"In constant currency terms sales grew 66.8% and we increased customer numbers by 35.7%," says Engelbrecht.

New customers will stick, he believes.

When Angola was at the worst of its US dollar shortage, Shoprite supplied stock off its SA balance sheet and earned huge customer loyalty by not exploiting its position, he says.

"Angola’s government imposed price control on food and used our prices as the benchmark," says Engelbrecht.

But the dollar shortage finds Shoprite with R2bn cash locked in inside Angola.

Engelbrecht is unconcerned.

"We will invest in further new stores, and see opportunity for at least another 25," he says.

For Shoprite, the big disappointment is Nigeria, where importing goods is nigh impossible and shopping centre development has stalled. "We should have 100-200 stores in Nigeria by now," says Engelbrecht. It has a mere 14.

While Shoprite will pursue African expansion, the pace is too slow for a growth-orientated company, says Engelbrecht.

For Shoprite, a new growth driver is beckoning in Eastern Europe. "We will consider Poland, Slovakia, the Czech Republic, Romania and Hungary," says Engelbrecht.

If Shoprite goes ahead, the entry strategy will be to acquire one of the multitude of small food retail chains in the region. "I want the venture to begin small enough so that if it doesn’t work out we can write it off and walk away with no serious damage," says Engelbrecht.

In contemplating a move into Eastern Europe Shoprite is seemingly readying itself for a close alliance with Steinhoff through Star.

Steinhoff has a 975-store footprint in the region through its Pepco brand. Shoprite’s share price has run hard of late, rising a third since January to a record high and boosting its rating to a 23 p:e.

It would not be surprising to see Shoprite’s share price take a breather from these levels. For investors this would be a good opportunity to accumulate shares in a group that has doubled its sales and operating profit in the past seven years.