Investec vs Investec: The Mr Price deal debacle

You’d be hard-pressed to find an analyst with something good to say about Mr Price’s acquisition of Europe-based retailer NKD.

From the day the deal was announced, the investment community has been remarkably united in its condemnation of what it sees as a possibly hugely value-destroying transaction.

Several analysts have urged Mr Price to abandon the potentially transformative R10bn deal; others have slammed it as “empire-building”; still more have described the Mr Price board as tone deaf to the concerns of its shareholders.

Perhaps the most generous comment came from Sasfin’s Alec Abraham, who suggested the market give Mr Price an opportunity to prove it is not going to follow the course to near ruin laid out by so many other South African retailers which have ventured offshore.

Think Woolworths, Famous Brands, Truworths, Sasol, Brait and Mediclinic, all of which created a “graveyard of offshore expansions” in the words of Benguela Global Fund Managers, wiping out hundreds of billions of rand in the process.

Benguela’s own chief investment officer, Zwelakhe Mnguni, was so frustrated he approached the JSE directly in an effort to put the deal to a shareholder vote. The problem is that despite this collective outcry, no vote was necessary given NKD’s size relative to Mr Price.

Lower returns, higher risk

So, it shouldn’t have come as a surprise that Investec Equities recently released a note on Mr Price headlined “NKD Discount to Persist – Downgrade to Hold”. In the world of sell-side analysts keen to maintain their relationships with company management, a “hold” is often code for: “sell”.

In a note to clients, Keenon Choonoo, the Investec analyst advising private wealth clients, said the deal makes Mr Price a leveraged group with “lower returns and higher execution risk”.

His bearish report follows JPMorgan’s recent downgrade of Mr Price, given increased uncertainty and potential pressure on profit margins that its largest-ever deal brings.

The thing is, Investec also happens to be the investment bank advising Mr Price on the deal. Actually, Investec was, according to its own website, the “exclusive M&A adviser” on the acquisition. And not only was it the exclusive adviser, it was also “lending partner, treasury solutions provider and JSE sponsor to Mr Price”.

Investec boasts that by combining the deep M&A expertise of its South African and German teams, it was able to offer integrated on-the-ground advisory across both jurisdictions. “Our strong retail sector insight and relationships in Europe played a critical role in delivering a successful transaction, requiring a local presence in both markets involved in this cross-border transaction.”

Though the recent investor presentation provided reassurances on several fronts – NKD would fund its own expansion, the dividend policy would be maintained, and the deal would be earnings accretive in FY28, said Mr Price – in his note, Choonoo argued there is no getting around the fact the group’s future is now fraught with uncertainties.

Not holding out much hope

The revenue targeted for 2030 and that same year’s expected earnings before interest and tax look ambitious, given NKD’s two-year growth history. Plus, of course, there is the matter of the limited history of NKD’s current management team.

Investec Equities certainly doesn’t rule out the possibility of a bullish outcome to the transaction; it just doesn’t hold out too much hope.

There’s also Choonoo’s insightful analysis of NKD’s exposure to Shein and Temu, which “currently have greater market penetration and are structurally more disruptive in Germany (and increasingly CEE [Central and Eastern Europe]) vs South Africa”.

He accepts that neither is currently a direct threat to NKD’s business. This was a point stressed by the German management at the recent presentation, when it pointed out NKD’s core customer is different (older); that it offers a different fashion proposition (upper end of the discount market rather than high fashion); and it is more convenient.

But, as Choonoo says, today’s younger Shein shopper will age into NKD’s target demographic and will continue to want to buy through apps. As for the fashion proposition, the fact is, Shein is already broadening into NKD’s offering. And when it comes to convenience, Shein’s strategy of localising logistics and partnering with physical retailers is likely to reduce NKD’s advantage.

So, while NKD will likely be shielded from competitive challenges posed by Shein and Temu in the near term, Choonoo reckons that over the medium to longer term these challenges will have an impact.

Chinese walls

Ultimately, the report is not a damning analysis but it still paints a picture of a deal that may not cover its architects in much glory.

It is, of course, to Investec’s considerable credit that its analyst was not pressured into writing a glowing report of a deal that doesn’t even sparkle. Chinese walls are evidently firmly in place.

Asked for comment on the situation, Investec tells Currency that the research report was not intended for media distribution and it therefore will not be commenting on its contents. “We can, however, confirm that our research analysts and investment banking teams operate with full independence from one another.”

That is a marked improvement from July 2018, when Investec analyst Anthony Geard urged Tongaat CEO Peter Staude to step down after the sugar producer’s “appalling” results. Investec then apologised for the “embarrassment” caused to Staude over the note. Yet Geard was entirely on the money: Tongaat collapsed in 2019 under the weight of “undesirable accounting practices” and “governance failures” – all linked to Staude. The sugar producer has never recovered and is now in the stages of final liquidation after a failed business rescue process.

ALSO READ:

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• Achtung! Why the market’s not cheering Mr Price’s NKD punt
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