Meikles – Time to consider a spin-off?

If legendary and loathed US Activist investor “Carl Icahn” had one company to pounce upon on the ZSE, it would be Meikles Limited. His obvious first port of call would be: rally proxies to push for a spinoff of TM from the group.

We believe Meikles’ bundling of unrelated business units has not benefitted investors. There is an argument; by spinning off TM stores and perhaps Tanganda too, investors would unlock value.

Excluding debt and cash we estimate TM’s comparative value to be in the region of $48 million ($25 million for Meikles’ holding), yet Meikles group including (Tanganda, TM, Meikles Hotel, Meikles departmental stores and wholesale and mining) is worth $19 million on the stock market.

We think Meikles’ massive debt of $94 million and other issues are clouding the real value that can be unlocked in units like Tanganda and TM. From our work, we understand that too much debt has the inherent ability to permanently destroy even the best of companies.

The M-store model is designed to sell clothing on a cash basis. Management believes it should target the less affluent market segments. We regard the strategy with indifference. Our view is that competition at that level for clothing is cutthroat and unconventional. Flea markets, vendors and existing stores in downtown target the same market segment.

When we first heard of Meikles’ Mega store concept, our concern was that fewer and fewer households are earning lump-sum salaries that enable them to buy groceries in bulk. Informal businesses mostly provide day to day provisions. But, emerging consumer habits particularly in high density areas where households team-up to buy groceries in bulk, enough to last months, are instructive.

Apparently, Meikles is following these nascent trends. In addition, Mega stores will also cater for tuck-shops sprawling in high density suburbs. As indicated by management this strategy will begin to bear significant results in 2016.

The current number of TM supermarkets is fifty three, with eight trading under the Pick n Pay brand. The ability of retailers to import wholesale groceries from South Africa and sell them locally provides a back door discount to their cost structure. With the US dollar expected to continue strengthening against the Rand, we think the exchange rate divergence will allow TM and Pick n Pay to cut down domestic prices of groceries without suffering that much.

Revenues have been softening in the last two years. FY2015 show Tanganda experienced a negative EBITDA. Management has noted Tanganda has exhausted available land and now needs to purchase extra land to expand. We regard Tanganda as a quality operation with a captive domestic market but we would not expect significant growth.

We expect imposition of VAT of 15 percent on accommodation of foreign tourists to dent revenues. Particularly where Meikles acknowledges, foreign tourists account for 75 percent of hotel guests. We also expect weakening incomes to negatively affect domestic tourists spending and numbers. But despite these negative headwinds, we view calming international relations with Zimbabwe as a boon. Given the myriad of factors affecting revenue, a clear picture is not easy to construct. Our sense is that hospitality revenues for the current period will be flat at best.

For a value investor thinking Meikles is trading at a discount, it is impossible to look past the debt. We think Meikles’ debt position of $94 million is the largest risk for the business. Meikles cash and “liquid” assets of $54 million fall short of meeting total debt by $40 million.

In 2014, Meikles’ corporate office (non-operating) assets were $125 million (35 percent of group assets). The figure dramatically fell by 50 percent to $64 million in 2015. These non-operating assets do not have a yield and are diluting returns on capital. Juxtaposing Meikles group holding strategy with that of other holding companies such as TSL and Warren Buffet’s Berkshire Hathaway flags the oversized corporate office.

At a market cap of $88 million, OK Zimbabwe a peer to TM, is trading at an enterprise value to EBIT (EV/EBIT) value of 5. TM generates an average profit margin of 2.7 percent, a little shy of OK’s three- year average of 3 percent. Ignoring cash and debt, while adopting OK’s valuation multiple of 5, we estimate the value of TM’s operational segment to be in the region of $48 million ($25million for Meikles). Contrast that with Meikles group’s market capitalisation of $19.8 million.

By spinning off TM supermarkets without cash and debt, Meikles could be more valuable than the group. We think by un-bundling Tanganda and TM, Meikles will see more value in units as stand-alone businesses.-The Source

By Ray Chipendo- Head of Research at Emergent Research

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