Retail sales in test is next year

However, this result was achieved on the back of an internal inflation rate of 10%. The real test for retailers like Truworths will come in the next year as their ability to maintain gross profit margins in a deflationary environment is tested. “To maintain their gross profit margin they will have to boost volumes by 10% - 15%,” says RMB Asset Management retail analyst Evan Walker. “That's a big ask in a climate that remains soft — even if you have the best management team on the JSE.

“It's that or keep prices high.”

Over the past 10 years — through good times and bad — Truworths has earned its reputation as a consistent performer. Its gross profit margin averages a healthy 53%. Headline earnings per share average 29% and operating profit 24%.

Maintaining gross profit margins is easier said than done — but essential if expenses are to remain under control. It requires that a retailer keeps customers coming through its stores, keeps them shopping and keeps mark-downs to the absolute minimum. It means your fashion buying has to be spot-on.

Not all retailers get this right. SA's biggest fashion retailer, Edcon, did not fare as well in this department. While sales increased by 2.2% to R5,3bn in the quarter to June, gross profit fell 6.6% to R737m for the quarter, from the comparable period a year ago.

This was primarily as a result of higher markdowns in Edgars and the discount division, the company said.

“Truworths has a freakishly good history of getting its fashion mix right,” says Coronation Asset Management analyst Quinton Ivan

The retailer, which owns Identity, Uzzi and Young Designers Emporium, reported retail sales up 11% to R6,2bn, and headline earnings per share up 14% to 337.6c.

Unlike some other companies on the JSE, which did not pay a dividend, it increased its dividend by 19% to 171c.

This increase in dividend payouts is noteworthy considering management's conservative approach to managing its finances.

Cash and cash equivalents were R767m after the group used cash to fund share repurchases, expand distribution facilities and increase trading space. It's a lot of cash to be sitting on and that concerns some analysts, who believe Truworths should be using this cash to better effect. For instance, the group's return on equity and return on capital are marginally below target because of the increased levels of cash retained by the group.

“Our share has remained quite strong, so we were more reserved in terms of share buy-backs than we had anticipated,” is how CEO Michael Mark explains the larger than expected cash balance.

Of course, having cash on hand means the group is able to react quickly should a market opportunity — or threat — present itself.

Truworths was not as conservative as some competitors when it came to growing its book prior to the introduction of the National Credit Act. It grew the book from 1,1m active customers in 2005 to 1,8m in 2009. While bad debts caused the retailer (along with its peers) pain in 2007/2008, these are now better managed and Truworths is reaping the reward: “Truworths earned interest of R549m on its debtors book and wrote off R432m in collection fees and unrecoverable debt,” says Ivan.

Net bad debt as a percentage of the debtors book grew to 11.9% from 11.3% last year, a figure near to Edcon's 11.8%. Mark is comfortable with these levels. “We can manage the risk. I would not choose to bring the bad debt down — it's too profitable.”

The next financial year will be interesting. The trading environment will not improve in a hurry, inflation is dropping and growth in trading space will decline from 12% this year to 6% or 7%.

Truworths' management has the track record to take such conditions in its stride.

Source: Financial Mail

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