Royal Bank

Non-foods sector spurs Innscor profits

Highlights for full year to June

Turnover up 328% from $18,394 billion in the prior year to $78,65 b

illion for the current year;

Profit after tax rose considerably on previous year by 732% from $2,896 billion to $24,095 billion;

Earnings per share increased by 743% from $3,71 in the prior year to $31,38 for this year; and

Acquired a 26% holding in Natfoods at $3,8 billion through an exchange of shares.

Nature of business

Innscor is a diversified industrial concern whose units range from crocodile rearing to the manufacture of fridges.

The group’s food sector within Zimbabwe includes fast food outlets trading under brands such as Chicken Inn, Bakers Inn, Nandos, Creamy Inn, On the Run (service station kiosks run in alliance with Exxon Mobil) and the latest addition being “Inn the Jungle”.

The group also operates a number of bakeries under its mass-market division.

The non-foods sector within Zimbabwe includes a crocodile ranching operation, an appliance’s division primarily involved in the manufacture of fridges and freezers under the Capri brand name as well as the credit retail division trading under Television Sales and Hire.

The group also has a distribution division through which it imports and distributes many leading brands through its franchised Spar stores.

The group’s regional operations consist of a mixture of light manufacturing concerns mainly bakeries as well as franchises of the brands currently in Zimbabwe.

The group has stores in Ghana, Zambia, Tanzania, Mozambique, and Kenya.

Results commentary

The group’s financial results indicate an impressive performance, highlighted by its massive 749% increase in profit attributable to shareholders from $1,724 billion in the prior period to $14,632 billion for the 12 months to June, considerably ahead of the average inflation for the period of 209%.

Net operating margins increased from 9% in the previous period to 19% for the latest set of results, indicating that the group has been successful in its cost containment strategy.

This was augmented by a substantial rise in the value of current assets excluding cash from $4,993 billion to $31,73 billion, an increase of 523%.

This is in line with the group’s stockpiling strategy which should reduce the group’s dependency on erratic supplies in the near future as well as having the effect of controlling costs, a key success factor in a hyperinflationary environment.

Return on shareholder’s equity appreciated from 49% in the prior period to 60% for the year ended June, an indication of increased value created for shareholders.

This coincided with an increase in the return on assets from 17% to 27%.

The group’s current ratio increased from 1,55 in the previous year to 1,78 for the current year, which suggests that the group is in a position of strength regarding liquidity and solvency.

It is to be noted that while a sufficient current ratio is preferable, too high a current ratio may indicate business may be holding on to assets which may be better served running the business.

Operational review

The group has rationalised its organisational structure, notable changes being the creation of two separate divisions for the foreign operations – franchising and operations.

The Zimbabwe operations have been placed under the control of a separate managing director whose sole concern will be Zimbabwe food operations.

The Zimbabwean foods division contributed $5,5 billion to trading profit on the back of volume growth.

Despite the bakeries being hampered by price controls as well as erratic supplies of flour and other raw materials, they still managed to contribute significantly to profits. The fast food division benefited greatly with the introduction of “Inn the Jungle” entertainment centres at its food courts. Management indicated that these had the effect of increasing customer counts by 25%.

The only brand to see a downturn in volume was Nando’s. The continued alliance with Exxon Mobil has continued to reap benefits through its ”On the Run” stores.

The Zimbabwean non-foods sector contributed trading profits of $11,2 billion by far the largest contributor of profits.

The main drivers of this profitability are the Capri fridges division as well as its crocodile ranching concern. Volumes at Capri were up 18% to 12 720 units sold, largely driven by exports, which contributed 32% of sales as compared to 3% in the prior period.

Management indicated that they were unable to keep up with the demand for freezer units in the region.

Turnover at the crocodile ranching business stood at US$4,6 million for the year and management was able to produce skin sizes at an average of 31,3 cm against an industry average of 26,5 cm, as well as attain increased prices from $87,45 to $125,17 a skin.

The crocodile concern is the foremost supplier to Hermes (a leading European fashion house).

Volumes of crocodile meat were down considerably due in part to the Sars outbreak which restricted demand from the Asian markets. Other contributors were the TV Sales & Hire as well as Kodak Photo Division.

The distribution division, now the fastest growing division of the group contributed $4 billion to trading profit, through the distribution of many leading brands such as Colgate Palmolive.

The Spar franchise was expanded aggressively with the number of stores being serviced by the Spar Distribution Centre being increased from 39 to 45.

The group’s foreign operations impacted negatively on the group’s overall profit despite turnover rising 31% to US$13,3 million.

In Kenya the group turned in a loss on a turnover of US$6,6 million. The group during the year closed seven loss-making stores and opened another 15 stores.

However, the group’s losses in Kenya have been narrowing throughout the year. Zambia saw an 8% increase in turnover in US dollar terms while Mozambique turned in a decline in volume as well as a loss.

This was as a result of conflict with their partners in Mozambique which has since been resolved.

Ghana turned in a profit on the back of an increase in turnover by 20% in US dollar terms, notable developments being the commissioning of a new bakery with the capacity to produce 9 000 loaves a day.

The year saw the disposal of a 50% stake in Shearwater a tourism company, in line with the group’s strategy of disposing of non-core businesses.

The group acquired a 26% shareholding of Natfoods at a cost of $3,8 billion through an exchange of shares.

Innscor has an option for a further 10% by December.

Betting on franchising

The creation of a new franchising unit at Innscor shows the group’s determination to become a leading Pan-African franchiser.

The group recognises the huge potential that franchising has in Africa.

For example in the US 50% of retails stores are franchised compared to South Africa where the figure is 6%. Ultimately the success of its franchising will determine whether the group can become a truly pan African player.

While most consider franchising to be the selling or loaning of a brand, it is actually more encompassing. It is more akin to the selling of a business system. In practical terms it enables individuals to buy into a business in which the third party in this case Innscor provides the know how to ensure success of that business.

The benefits are clear for all concerned; Innscor receives firstly a lump sum in the form of franchise sales and more importantly a percentage of profits in the form of royalty fees and franchise fees, also just as importantly it harnesses entrepreneurial spirit for the business owner.

Another major bonus for Innscor would not have to invest in overheads. The group has very much done its homework concerning new opportunities. Already with its alliance with Exxon Mobil it has identified 139 sites across the continent which they could implement.

With its other brands they have identified 1 097 sites ranging from Morocco to Senegal.

The question to be asked is: ”are their brands strong enough to attain critical mass throughout Africa?”

Strategic outlook

To own world class intellectual property that can be franchised;

Be able to operate it;

Gain distribution rights for world class products;

Focussed backward integration;

Provide crocodile skins to the world leading fashion houses;

Creation of a”‘home products” manufacturing unit combined with Capri to be listed as a separate company; and

Disposal of non-core assets

Immediate outlook

In Zimbabwe the group is commissioning two new bread plants in Mutare and Bulawayo. Chicken Inn as a brand is to be given a lift and all efforts are being made to reverse the declining fortunes of Nandos.

TV Sales and Hire is to be sold off, however management wishes to exchange it for a light manufacturing concern.

Concerning the region additional 70 counters are to be rolled out in seven countries including Nigeria, Senegal and Morocco.

Recommendation and valuation

The company is currently trading on a PE of 19x, which suggests the stock to be fully valued at present.

There is no question the stock has an inherent premium attached to it as many investors recognise the potential of the company.

We forecast the group to make $210 EPS for the full year ended June 2004, leaving a forward PE of 2.69x therefore we suggest the stock to be a long-term buy.

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