Massmart proves that bad can get worse

Massmart’s release of a trading statement inspired me to remind Ghost Mail readers that no matter how bad things seem, they can usually get worse. Even Charles Leclerc is learning this the hard way at Ferrari.

Recently, I wrote an article on how defensive stocks often aren’t as defensive as people think. The issue lies in margin mix, with the “defensive” product categories typically achieving the lowest margins. If you can get it right at scale, it is a far better business to sell consumer electronics than to sell bread. You make more money selling clothes than selling baked beans.

When the economy turns against you though, there are more beans and loaves of bread in the trolleys than TVs and new hoodies.

Massmart’s parent company Walmart has had a couple of tough quarters and this was a strong leading indicator of the troubles at Massmart. With the release of a sales update and trading statement for the 26 weeks ended June 2022, we now know that things are just getting worse at Massmart.

Last chance saloon?

For years, Massmart was a mixed bag of great businesses (Makro and Builders) and truly awful businesses (Game and the entire cash and carry operation). With a silo mentality and lack of cohesion at the centre, there was much head scratching by the market about why this issue couldn’t be resolved.

Eventually, Walmart stopped scratching its head and decided to take action, parachuting in Mitchell Slape to come and work some magic on the group. Although it may look from the outside like a total flop, one has to remember the impact of Covid over this period. It really hasn’t been an easy task to fix this thing.

Slape has tried to create more centralised structures, cut costs and outsource certain support functions of the business. Walmart gave the group critical financial assistance during Covid, without which I think things may have gone the same way as Edcon.

Massmart agreed to sell some of its messiest businesses to Shoprite, for reasons that remain a mystery to me from a Shoprite perspective. The Brackenfell Bruisers should’ve just waited for Massmart to shut the stores and give up, rather than actually paying money for the space. The deal is still stuck at the Competition Commission.

So, there has been action. There’s also been share price action, primarily towards the bottom right of the page. The share price is down 45% this year alone. This has been a disastrous acquisition for Walmart.

The most important question is this: how much more patience does Walmart have? We are way past a seriously high pain threshold for the Americans.

Looking into the result

Sales from continuing operations (excluding the horror shows of Cambridge, Rhino and Massfresh) increased by 1.9% over the prior year. Comparable store sales increased by 4.3%. If you really try hard with your filters in Excel and remove the non-core, discontinued store base in South Africa (thereby leaving out some of the worst Game stores too), the comparable sales growth is 5.1%.

Yippee. With internal inflation of 4.8%, that means volumes increased by 0.3%. Pop open the champagne for this epic growth story.

Speaking of champagne, liquor sales grew by 21.3%. Massmart highlights a recovery in the Hospitality, Restaurant and Catering customer base. Perhaps the company executives are just drowning their sorrows.

General Merchandise, a key category that drives margins, experienced a decline in sales of 1.4%. This is where the problems start.

Discontinued operations is where they get far worse. I’m not sure there will be much left for Shoprite to buy, with sales down 19.7% and like-for-like sales down 17.2%. The civil unrest in July 2021 is blamed for this result, with stores remaining closed and products not re-introduced into stores. Whilst I have no doubt that there has been an impact, I also think that’s a convenient excuse for a part of the business that has destroyed shareholder value for years. On the plus side, this side of the business is shrinking so quickly that at some point it will be too small for the Competition Commission to even care anymore.

There are some once-offs in the numbers, like R184 million to get out of the lease for the Riverhorse Distribution Centre that was destroyed in the unrest. Massmart has received another R270 million in business interruption insurance, taking the total recovery to R370 million. The company hopes to get the remaining payment before the end of the year.

At group level, the headline loss is expected to be between -R910.3 million and -R974.9 million. For continuing operations, the headline loss is expected to be between -R885.7 million and -R921.5 million. This is perhaps the scariest point of all: the gap between total loss and continuing loss really isn’t that big.

On a per share basis and just looking at continuing operations, the headline loss is about 2.5x worse than in the comparable period. Ouch.

I made good money on Massmart in 2020 at a time when the share price had dropped too far. I took profit and got out the way, which was definitely the right decision.

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