The retail sector in South Africa has experienced unprecedented growth in the last five years, with consumer spending being extremely strong and growing at a far faster rate than the economy as a whole.
Against this background, I am pleased to report that this has been another good year for our group, with an 18,5% growth in comparable headline earnings per share, which follows compounded growth in the past five years of 56%. I must, once again, congratulate and thank our chief executive officer Dennis Polak, his management team and our entire staff of over 15 000 for their fine efforts, dedication and commitment.
Our group’s retail turnover now exceeds R7 billion and is well on the way to reaching the R10 billion mark. Our pre-tax profit is one of the highest in our sector and has grown this year to R1,78 billion. Whilst the historic rating awarded to our group by the market is not the highest in our sector, the arrival of the private equity industry to our shores has demonstrated the undervaluation of our share, and its re-rating together with that of the retail sector as a whole has recently moved our share price to a level reflecting a historic price earnings ratio in excess of 14 times.
Having regard to our expectation of the continued strength of the economy and our business, as well as our very strong balance sheet and cash flow, we have reduced our dividend cover this year from 2,1 to 2,0 times resulting in the total dividend for the year being increased by 22,7% to 270 cents per share. Whilst we are of the view that next year will be one of the most difficult that the group has experienced for many years, we do believe that this will be short-lived and that the economy will once again continue its upward momentum in the build-up to the Soccer World Cup in 2010.
Notwithstanding the strong economy over the last five years and the adverse effect of the continued increases in the petrol price, our optimism and GDP outlook for the future remains positive which is supported by strong business and consumer confidence. There has been and continues to be, a continual upward shift in the income demographics of consumers, as reflected in the living standards measurement (LSM), particularly in so far as our market is concerned. This is particularly dominant in the emerging black middle class.
Employment growth, improving confidence across racial groups and government infrastructure spend of R259 billion over the next two years all bode well for the economy as a whole. Government spending will be supported by corporate investment and we have already seen announcements by Transnet and Eskom totalling more than R145 billion over the next five years, and major construction companies show two-year order books totalling in excess of R30 billion. These factors, combined with low inflation, real wage increases of the consumer, and the continued economic stability have all resulted in the continual increase in the disposable income of consumers.
Interest rates, which are at all-time lows, are expected to remain static or only increase marginally during the next year. Thereafter the expectation is that interest rates will again start declining which together with the other factors mentioned, will once again allow consumer confidence and spending to grow at a far greater rate than the economy as a whole which will be extremely positive for our group and the retail sector in general.
As a result of the low interest rate cycle, the ratio of household debt servicing costs to disposable income remains manageable at around 9%, up from 6% two years ago. Growth in overall buying power continues to be boosted by the black middle class, which grew 30% in the 2006 calendar year to 2,6 million according to a survey by the University of Cape Town and TNS Research.
Our new democracy has continued to evidence political stability in South Africa that is most gratifying and beneficial for doing business. The economy under the guidance of President Mbeki has been extremely well managed and it is hoped that at the end of the year the ANC will elect a successor who is qualified and capable of continuing the good work done thus far by the president and his Minister of Finance, Trevor Manuel.
The National Credit Act becomes effective on 1 June 2007 and our group is expected to be completely compliant with the new regulations before the implementation date. This Act will go some way to ensuring that consumer credit levels do not become dangerously high, and at the same time, it will have benefits for our business by enabling us to utilise risk-based pricing.
A quota system was introduced from 1 January 2007 for a two-year period, restricting the quantity of ready-made garments and fabric imports from China. The bulk of our group’s clothing is manufactured locally in South Africa, so whilst the new quota system does present challenges to our group, particularly in regard to fabric, we are better placed than most similar companies and we thus do not expect these quotas to adversely affect our business. By way of example, the number of ready-made garments affected by the quota system in the case of our group is expected to amount to only 3% of next year’s total garment purchases.
We are one of the biggest users in the country of the local manufacturing industry, and this year we acquired in excess of 5,5 million South African-made garments via our TFG Apparel Supply division. We will continue to grow our local supply base, thereby promoting the local clothing manufacturing industry, and in the process provide employment for many in the garment manufacturing industry.
Our group’s greatest asset continues to be its current excellent management. To ensure that this situation continues in the years ahead, we pay considerable attention to retention and succession planning in all facets of our business.
In February of this year Dennis Polak, who has been the CEO for the last ten years, announced that he would be retiring from this position at the end of 2007. Dennis will have spent 39 years with the group, the last ten as CEO. He has been an outstanding CEO and under his stewardship, the company has not only annually produced outstanding results (increasing earnings per share from 82,7 cents in 1998 to 534,2 cents in 2007), but it has considerably increased the number of divisions which constitute the group by adding Exact!, fashíonexpress, Totalsports, DueSouth, @home, Luella and RCS financial services to the group’s offerings. I am delighted that Dennis will be remaining on as a non-executive director of the group and am confident that his successor, Simon Bowley, who has a proven retail track record, will ensure the continued prosperity of the group.
Starting in 2005 the board embarked on a comprehensive succession process to select an internal candidate. Simon’s appointment as CEO Designate with effect from 19 February 2007 was done to facilitate an orderly eleven-month transition, during which time Dennis and Simon will adjust their respective roles to accommodate a seamless change in leadership on 1 January 2008 when Simon will be appointed as CEO. Simon has been with the group for 20 years, the past seven as MD of the Foschini Stores division and prior to that as MD of the Markham division.
At the same time that Simon was appointed as CEO Designate, Doug Murray, previously Retail Director of our group, who has been with our group for 22 years, was appointed as Group MD Designate. We are delighted to have two such able internal candidates who we are confident will steer the group to new heights in the future.
Both Simon and Doug have now joined the Foschini Limited board.
We remain committed to achieving a balance between economic performance and the part we can and must play for our society and the community in which we operate. We are very mindful of the critical role that business has to play in the upliftment of the community and for this reason we are committed to continuing investment in the development of society. We make charitable donations to well over 100 national and local non-governmental organisations with our primary focus areas being education, job creation, staff bursaries, poverty alleviation, welfare and combating HIV/AIDS. Full details of our CSI endeavours are covered in the sustainability section of this report.
Our transformation committee, with myself as Chairman, has the task of driving the group’s Black Economic Empowerment (BEE) strategy into the future. Our various internal transformation subcommittees tackle, on a daily basis, the various pillars of BEE to ensure that our group plays its rightful role in the development of historically disadvantaged communities. In the Financial Mail’s Top Empowerment Companies Report of 2007, our group has once again fared extremely well and achieved the second highest rating in our sector. Now that the final BEE codes have been issued, we will start focusing in earnest on our BEE ownership endeavours as each South African corporate must inevitably do.
Your directors consider responsible corporate governance as integral to the success of the company, and our commitment thereto is outlined in our corporate governance report, which appears elsewhere in this document.
Having regard to the economic factors referred to above and a satisfactory increase in turnover in the first eight weeks of the new financial year, we are confident that, in the absence of unforeseen circumstances, the company will enjoy another year of satisfactory growth.
On behalf of my board I wish to extend appreciation and thanks to:
Eliot Osrin
Chairman
31 May 2007
