malvernmugadzikwa
The textile giant went through a down period in the last decade with the influx of small suppliers flooding the market with imported material.
Revenue grew at a CARG of 0,40 percent only over FY2012—FY2017. This tells us all we want to know about the stage of the corporate lifecycle at which the company is operating.
If you fall into a common trap of limiting your analysis to the last three-five years (2018-2021), you would think that Edgars is one of the fastest growing companies in Zimbabwe when it’s actually approaching the other end of the lifecycle.
Despite a decrease in units sold over these last four years, revenue kept on going up at an unrealistic compounded annual rate of 82 percent driven by inflation and local currency depreciation. The industry is overloaded with small boutiques and runners selling imported products. Most of them rarely pay taxes and their cost of sales are much lower relative to bigger market players. That takes pricing power away from Edgars. Growth in retail industries has historically been decided by customers predominantly on the back of disposable incomes. In such circumstances having a strong brand is important because it reduces the cost of acquiring new customers.
Nevertheless, it only becomes a fallacy when that established brand is failing to create an insurmountable barrier to entry around a firm or industry.
To put this in context, battles have always been fought around price cuts instead of price hikes. Players like Edgar always find it difficult to retain customers when other retailers with lowers costs cut prices. At the same time, they cannot hike prices without witnessing an attrition in sales volumes and hence a compounded growth rate less than 1 percent over FY2012 — FY2017. That’s likely going to be the case beyond FY2023.
Quality
EBIT Margins fell from 12 to -6 percent over FY2012 and FY2017 and averaged 3 percent in the last four years. Very low relative to Truworths which had an average of 30 and 9 percent respectively during the same periods.
However, despite a better EBIT margins record over the last 10 years, Truworths seem to be equally struggling when it comes to defending profitability. Operating margins fell to -6 percent in 2017, +18 percent in 2019 and slipped back to -3 percent in 2021.
Evidence that the industry ground is no longer stable for these big names.
Edgar’s cash conversion rate averaged 0,22 between 2012 and 2017 before it slipped into the negative region over the last 4 years.
The company is failing to turn sales into actual cash. For example, this company reported a profit before tax of $2,9 billion during the first 6 months of 2022 but after adjusting for non-cash items, interest and tax in the cash flow statement, net cash from operations fell to negative $595 million.
That means Edgars profits in the income statement are only in theory. The company is in a weak cash position and this has been happening for years with only 4 of the last 10 years recoding positive Free cash flow balances.
At the same time Capex is growing, directly financed by debt.
Under normal circumstances, a declining company like Edgars should be able to generate enough float for its micro-finance business internally and sustain operations with free cash flows. They can’t be struggling with revenue growth, thin margins, cash conversion and at the same time accumulate debts to buy desktops.
Expansion is good, but it becomes real when its being financed by resources generated internally. I find it interesting that the company is promising to repay short term debts using internal resources when free cash flows are negative. Earnings don’t pay debts; free cash flows do. How are they going to turn that around, l wonder? As it happens, the company is just making sure that it replaces paid debts with another borrowing. In other words, Edgars is borrowing to pay short term debts every year.
Valuation
I forecast inflation to average 25-30 percent in the last six months of the trading period and sales volumes to be at least 5 percent higher than H1 as we approach the festive season.
That take my forecasted revenue to around $20 billion for FY2023. Operating profit margins are forecasted to average 8-10 percent beyond FY2023.
Reinvestment rate is expected to be as low as 2 percent. Without great business prospects, the stock is unusually cheap.
My estimated intrinsic value is $9,82 compared to a market price of $7,50. A cigar butt opportunity that might give you one or two puffs though it may not offer much smoke.
Disclaimer: Business Weekly has taken all reasonable steps to ensure that the information within this article is correct and no liability is accepted for any loss arising from reliance on it. All opinions and estimates expressed in this report are (unless otherwise indicated) entirely those of the writer. Readers of this article shall be solely responsible for making their own independent investigation of the business, financial condition and prospects of companies referred to in this report.
Sylvester Mupanduki/Phone: 0771 623 648/Twitter: @Real_UncleSly/Email: [email protected]
Bongani Ndlovu