South African Retailers at Most Expensive Headed for Fall

Investors speculating on rising African wealth are driving South African retailers to the highest valuations on record in a sign to Investec Asset Management and Renaissance Capital the shares are set to fall.

The FTSE/JSE Africa General Retailers Index (JGENR) has jumped 45 percent since Wal-Mart Stores Inc. (WMT) announced plans two years ago to buy Massmart Holdings Ltd. (MSM), South Africa’s largest wholesaler. The gains pushed the 10-member index to 18.1 times reported earnings, 55 percent higher than its 10-year average and above the MSCI Emerging Markets Retail Index (MXEF0RT), which trades at 15.2 times, according to data compiled by Bloomberg. Just eight months ago, valuations on South African retailers were lower than their emerging market peers.

Investors are “overcooking” valuations on expectations of an African-expansion boost, said Diane Laas, an equity analyst at Cape Town-based Investec Asset Management, which oversees more than $90 billion. “I’m not convinced.”

Retailers including Cape Town-based Shoprite Holdings Ltd. (SHP), Durban, South Africa-based Mr Price Group Ltd. (MPC) and Cape Town- based Truworths (TRU) International Holdings Ltd. plan new stores from Angola to Nigeria to benefit from rising wealth in the world’s poorest continent. Africa’s swelling middle class may boost household spending 63 percent to $1.4 trillion 2020, according to a 2010 report by New York-based McKinsey & Co.

‘Avenue for Growth’

Aberdeen Asset Management Plc, which has 184 billion pounds ($293 billion) in assets, sees further gains for South African retailers. The Aberdeen, Scotland-based money manager has this year raised its stakes in Durban, South Africa-based Spar Group Ltd., Cape Town-based Clicks Group Ltd., Truworths and Massmart, according to data compiled by Bloomberg. Investec Asset Management hasn’t added to its holdings in the stocks, the data show.

“Over time there is an avenue for growth in Africa,” said Gabriel Sacks, an assistant fund manager at Aberdeen in London. “I know that’s a long way away for some of them, but we are long-term shareholders and if anyone will be able to play those markets, we believe its South African corporates.”

Foreign investors own about 70 percent of Truworths, South Africa’s largest clothing retailer, from 67 percent a year ago, and more than 90 percent of Massmart, data compiled by Bloomberg show. Almost 60 percent of shares in Mr Price and 54 percent of Woolworths Holdings Ltd. are owned by foreign funds, increasing from 51 percent for both stocks in May 2011. Aberdeen owns about 12 percent of Truworths and 13 percent of Johannesburg-based Massmart.

Cheaper Than Peers

Some South African retailers are cheaper than emerging- market peers even after the rally. Truworths, trading at 14 times its expected earnings for June 2013, compares with 18 times December 2013 earnings for SACI Falabella, Chile’s largest retailer by market value, data compiled by Bloomberg show. Shares of Lojas Renner SA, Brazil’s biggest listed clothing retailer, are equivalent to 17 times December 2013 earnings, while Massmart is valued at 19 times June 2013 earnings. Aberdeen also owns stock in SACI Falabella (FALAB) and Lojas Renner, the data show.

If the retailers aren’t able to spend their cash on an African expansion or their growth slows, the companies will probably pay out higher dividends, Sacks said in a May 4 interview.

Challenges at Home

South Africa’s economy isn’t growing fast enough for its retail companies to be trading at higher valuations than those in Russia or China, Investec Asset Management’s Laas said in a May 7 interview.

The nine-member MSCI China Retailing Index trades at an average 10 times 2013 earnings, while OAO Magnit, the only retailer on Russia’s Micex Index, trades at 16 times 2013 earnings.

South Africa’s economy expanded 2.9 percent in the fourth quarter compared with 4.5 percent in Chile, 4.8 percent in Russia, 8.1 percent in China and 4.7 percent in Turkey, according to data compiled by Bloomberg. South Africa’s unemployment rate, the highest of 61 nations tracked by Bloomberg, unexpectedly climbed to 25.2 percent in the first quarter, as builders and factories in Africa’s biggest economy shed jobs.

Valuation Reasons

Mr Price, the clothing and linen retailer that trades at 22 times earnings, may fall 23 percent in the next year to 83 rand, according to Jeanine Womersley, a retail analyst at Johannesburg-based Renaissance BJM, who rates the stock hold. The stock fell 0.6 percent to 104 rand by the close in Johannesburg.

Woolworths, a Cape Town-based food and clothing retailer, may decline 20 percent to 40.60 rand, Shamil Ismail, a Cape Town-based retail analyst at BNP Paribas Cadiz Securities Ltd., who rates the stock a sell, said in a March 30 note. Woolworths slumped 1.4 percent to 49 rand in Johannesburg.

“The South African retailers are priced for perfection,” Chris Gilmour, an analyst at Johannesburg-based Absa Investments, said today by phone. “Even so, there are reasons for the valuations. These companies are managed on a par with first-world peers, but at the same time can benefit from emerging-market growth.”

Clicks, Massmart, Woolworths and Mr Price declined to comment on valuations of their stocks, according to e-mailed comment from Woolworths press office and spokesmen Graeme Lillie, Brian Leroni and Lynette Lambert.

Fond Foreigners

Progress in expanding into sub-Saharan Africa is stalled by power shortages, legal and regulatory differences, poor telecommunications and a scarcity of formal retail space such as shopping malls, Truworths Chief Executive Officer Michael Mark said in an e-mailed response to questions on May 11.

Foreign investors are “quite fond of South African retail because of their successful history,” Mark said, adding that local investors see the stocks as expensive. “It depends on your perspective.”

After opening a store in Botswana more than 20 years ago, Truworths has 21 of its 552 outlets outside its home market, including Namibia, Swaziland and Mauritius. South Africa accounts for 98 percent of sales, according to data compiled by Bloomberg.

To mitigate risks, Truworths follows an “incremental expansion plan” which allows the company over time to better understand the operating environment and market potential, Mark said.

‘Next Asia’

Shoprite, Africa’s largest supermarket chain with 1,730 outlets, opened its first store in Namibia in 1990 and has 123 stores in 15 countries outside South Africa that accounted for about 10 percent of fiscal 2011 sales. Shoprite may spend 1.5 billion rand over the next three years On Nigerian property to help build sites.

Mr Price said in 2009 it is looking at Nigeria for an expansion and opened a test store in Ikeja Mall in Lagos in March 2012.

“Retailers are tending to look at Africa as the next Asia and considering enormous growth that could come out of there as it formalizes,” said Jeanine van Zyl, a retail analyst for Cape Town-based Old Mutual Investment Group of South Africa, which manages 472 billion rand from Cape Town. Investors “are pricing in Africa way before it actually happens because Africa is a very slow story,” she said.

To contact the reporters on this story: Stephen Gunnion in Johannesburg at sgunnion@bloomberg.net; Janice Kew in Johannesburg at jkew4@bloomberg.net

To contact the editor responsible for this story: Gavin Serkin at gserkin@bloomberg.net

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