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SIMON BROWN: I’m chatting now with Keith McLachlan from Integral Asset Management. Keith, I appreciate the early morning time. Pepkor results were out a couple of weeks ago, and of course, everyone knows that’s Ackermans; it’s Pep itself. Those are the big brands.
But lurking down at the bottom is their technology business. It’s about 10% of the group and within that sits Flash, which is about 84% technology. It’s around 8.5% of the business and it’s doing really, really well. Profitability above 20%.
The first question to you, because I know this is a stock you follow, is what is the Flash business?
KEITH McLACHLAN: Morning, Simon. I think Pepkor does itself a disservice in terms of disclosure around Flash. Perhaps – think about it – it might be intentional as well, given how competitive this sort of market is.
Flash is really a prepaid digital distribution business. It has three parts. It has the trader business that sells [and] installs services, point-of-sales devices at informal traders around the economy. There are almost 200 000 of these. There’s a large number. If you walk into a spaza shop and you buy airtime or prepaid electricity or something, the odds are you’re buying it from a Flash point-of-sales device. We know this business …. It’s a very different business.
Then they’ve got the cellular of the business, where it distributes SIMs and cellphones. It’s very, very successful. Large proportional phones sold in South Africa are already out of this. And at the same time, the SIMs allow them, once they’ve been activated, to actually earn annuity income out of it.
Then finally, you have the aggregation business, which is a ‘buy in bulk and break’ and so on type of business. So it’s a B2B business, really digital. And the core of all of this is you’re selling prepaid airtime, prepaid electricity, bus tickets, things like this. It’s a very, very defensive business. It might be low margin at an individual sales point, but in fact, there’s a vast volume and there’s a huge operating leverage that drops to their bottom line.
Just to give you a sense in the latest set of results – and you touched on it – Flash’s operating profit was up more than 20% of this.
SIMON BROWN: I was double-checking this morning; in their last set of results, which is a half-year set of results, they mentioned Flash four times. That’s it – four times in the entire thing.
It’s a very competitive space. You mentioned that. Blue Label is in there, many are in there. My sense, though, is that once you’ve got that distribution – I don’t want to say it’s a moat, but it gives you some good strength in the operator. If you’ve got a spaza shop that’s selling your product, as long as you deliver the service, they’re more than happy to continue to sell for you because they’re in your revenue stream as well.
KEITH McLACHLAN: Definitely. You’re bringing in the ability to sell things they couldn’t sell before. About two-odd years ago Flash changed the business model, or at least augmented it with what they call Easy Tokens. It’s really a prepaid token that Flash issues to you that you can then redeem into other tokens, be it Vodacom or MTN airtime, electricity or whatever and the like. Now, out of it … business, IFRS [International Financial Reporting Standards] … doesn’t realise that as a sale until it’s been converted.
[To] give you a sense, in the last set of results management turnover was up 11% as R15.8 billion cash digitised in their ecosystem will convert to revenue, but they reported revenue in terms of IFRS that was down 8%. So you are empowering traders to sell items they couldn’t. And you are empowering consumers and traders with real optionality in terms of how they consume as well, if IFRS really doesn’t like it, but at the core you receive the business; it’s in the ecosystem. So a very, very valuable business.
SIMON BROWN: Yes, I get that. And IFRS often makes sort of a mess of numbers.
It also includes those mobile sales. I’ve never bought a mobile phone from a Pep or an Ackermans, but I know a bunch of people who have. They are typically the lower-cost phones. They’re not going to be selling you an iPhone or a Samsung S20, whatever. But again, it’s a giant market of consumers who are in their stores and patently liking it. I’ve seen Shoprite trying it but there’s never anyone at the Shoprite counter, whereas whenever I go past a Pep or Ackermans those counters are busy.
KEITH McLACHLAN: Definitely. There’s a vast need. As human beings, among that hierarchy of needs we need to communicate. That is true of high LSM and low LSM, the low LSM might just might be more price-sensitive, but that’s why you get second, third and fourth tier phones and things that can arrive at this market. If you can get the right price point, if you can get the right distribution, you can move vast volumes here.
SIMON BROWN: Yes. And then, as you say, you earn off those SIMs during time.
A quick last question. Brazil is relatively new for them, a market they’ve moved into. Your sense on how that is doing in what is still probably early days for them there?
KEITH McLACHLAN: It’s actually doing better than expected. The partnership – remember the core family is still quite involved. They’ve injected a good sum of capital into that ramped-up store growth, and importantly they’re ramping up trading density as well. They’ve been tinkering with the product range to see how Pep can really get returns to scale across geographies. We’ll see how that plays out in time. But really, in terms of operational fundamentals, business is ahead of where they wanted it to be. Our opinion is it could be quite a big operation if you just draw a very simple straight line on how it’s doing.
SIMON BROWN: I take your point on that. It’s a small deal at this point, but could become significant for them. What I like about it is they did it small. They’re not doing a giant offshore deal. Yes, we are looking at you, Woolies.
We’ll leave it there. Keith McLachlan of Integral Asset Management, I appreciate the early morning.
