The McColl’s Retail Group is one of Britain biggest convenience stores operator with 1,650 stores in operations.
Today’s trading update saw McColl report a rise in sales by 19% but LFL saw no improvements from last year, despite food inflation rising.
If you want to learn more from McColl’s, then I have listed 10 things which will help you understand more of McColl’s.
Ten Things you should learn about McColl’s from an Investor Perspective
1). It bought 298 stores from the Co-Op for £117m.
The acquisition was made in mostly in debt, along with £12m share placing. This reverse the company deleveraging process as net borrowing rose to £110m.
2). From January 2018, Wm Morrisons will supply McColl’s Retail Group with fresh food and grocery for up to a period of 12 months.
McColl will gain access to their best-in-class sourcing and manufacturing capabilities.
Whether this will increase the company’s margins remain a mystery.
3). A third of total assets are goodwill totalling £153m, but it’s fine (see point 7, for details).
A business with lots of goodwill doesn’t make it useless. What it means is the subsidiaries need to grow and close the gap between original value and the value the parent company placed on them.
If the subsidiary continues to grow, it is justifying the goodwill and the acquisition price by the parent company.
4). McColl’s see a big jump in revenue but watch out for like-for-like sales.
Grocery’s profit margins are razor-thin and professional investors are extra careful about profit generation.
YOU SHOULD DO THE SAME!
Ignore any sales growth, unless it results in similar growth to profit. Otherwise, it is facing diseconomies of scale (falling margins).
Keep an eye on LFL Sales because we want to know if the grocer is maintaining or growing their existing operations, while thriving for expansion. We don’t want the expansion to fill the gap of lost sales from existing operations.
Here are McColl’s LFL Sales:
For McColl’s, it has struggled to grow LFL, this has slightly recovered, probably due to rising food inflation (roughly 2.5%). The latest food inflation number is 4%. If food inflation continues and costs are down, then margins should improve.
5). It continues to grow convenience stores.
The growth in their convenience store portfolio has been rapid since they listed on the London market in 2014. The rapid growth is shown in the table below:
Source: McColl’s Retail Group.
Notice the rise in convenience stores and the fall in newsagents. In 2011, McColl has more newsagents than conveniences.
6). McColl’s got listed in the market in 2014.
The company got listed in 2014 with a valuation of £200m (short of £225m) when it had 1,276 branches.
Since then, the shares rose to £2.85 per share from £1.91 (the IPO price).
That is impressive, given the struggle from other supermarkets.
7). The company has good quality shareholders’ equity.
A measure of good quality shareholders’ equity comes when asset turnover rises, as well as shareholders’ equity.
Despite a third of their total assets deriving from goodwill, McColl’s manages to grow asset turnover from 2.6 to 2.88, while equity rose from £39m to £140.5m during the last seven years.
8). Management was focused on deleveraging.
The company did see net borrowing fell from £101m to £36m in the past six years. But since the acquisition of 298 convenience stores, net borrowing rose to £110.8m.
9). The market valuation
It’s all about earnings per share. In their interim result, H1 Result was 2.8p vs. 6.1p, due to exceptional costs, possibly relating to the acquisition. A quick at adjusted earnings per share still see it fall to 5 pence per share down from 6.1 pence.
Add in the adverse effect from LFL in q4, then profit margin will struggle for the full year. Brokers are forecasting an EPS of 17.3 pence per share, this is 17% higher than last year giving a PER of 16 times.
For 2018 and 2019, brokers expect EPS to grow by 29% and 18.8%, respectively, despite sales growth slowing to 12% and 2%. In 2019, EPS is forecast at 26.5p per share or roughly 11 times’ forward PE.
But markets don’t look that far ahead.
10). Operating cash flow has been stagnating.
It is struggling to grow operating cash flow. Net operating cash fell from £41.4m in 2011 to £21.6m by 2016.
More importantly, there has been zero improvements in net cash flow. You may wonder that McColl’s interim cash flow improved to £34m from £6.7m. But a look at operating cash flow before working capital cash movement see £15.25m down from £16m in the same period of last year.
The conclusion is most of their cash flow is based on favourable movements in working capital items.
McColl’s saw net investing expenditure rising from £2.5m in 2012 to £25.7m by 2016. I EXPECT expenditure after this acquisition.
Are convenience stores getting saturated in the UK?
Given that McColl’s has seen falling like-for-like sales in 2015 and 2016 of 1.9%, its only right for us to ask if the growth in convenience stores has hit a saturation point.
Since 2010, the number of stores rose from 13,617 in 2010 to 16,426 by 2015. The growth in convenience stores has slowed to 3.2% in the past five years.
But another research shows convenience store is back on track. According to the IGD (Institute of Grocery Distribution), the convenience market is expected to grow from £40bn in 2017 to £47.1bn by 2022, a total growth of 17.7%. That is higher than hypermarkets (1% growth) and supermarkets (5.9%).
But it lags behind discounters with a growth rate of 50%.
Overall the total UK grocery market is expected to grow by 15.4% to £212.9bn by 2022.
It will probably rub off on McColl’s Retail, but margins matter more than sales growth.
McColl’s has grown market capitalisation to £318m with thin operating profit margin of 2%, similar to Tesco and lower than Sainsbury’s 3%.
Also, I feel the share price is pricing in a lot of future expectations and economies of scale. Until we see it in print then it is all potential. In the end, the grocery sector is still at the mercy of the discounters as they will gain a further 50% from 2017 by 2011.
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The above analysis is based on my opinion and nobody else. It does not constitute professional investment advice. Data is correct on at the time of availability. I don’t hold the company’s shares unless stated.