Store Wars: The Battle For Wallets Goes Digital

October 8, 2020
Victoria Gorman, Laurium Capital

Covid-19 has prompted a "once in a generation" shift to online retail — but have SA companies been caught napping?

Until February, the battle for customers’ digital shopping baskets was a minor skirmish on the fringes of the larger retail war taking place in shops around SA. Then Covid-19 arrived, sparking a seismic shift in consumer behaviour. Retailers, for years complacent or absent from the online marketplace, had to go from zero to 100 almost overnight. Suddenly, the digital basket had been thrust into the frontline.Ross Jenvey, founder of investment company Kingson Capital, says on-demand e-commerce service providers including OneCart, Checkers Sixty60, Bottles, Quench and Zulzi have experienced growth of between 200% and 500% in daily orders since the lockdown began in March.


All indications are that it’s a permanent shift, too. By September, even as the lockdown eased, Google data showed that search requests for "online grocery and delivery services" in SA were still twice as popular as they were just six months before. "Prior to Covid-19 most local retailers were earning between 1% and 2% of their revenue in SA from online sales," says Hannes van den Berg, a portfolio manager at Ninety One. "Since the pandemic hit, most of them have doubled or tripled that to between 3% and 5% of their domestic revenue. "Retailers need to grasp the magnitude of this moment. Some have clearly done so.

Shoprite head of strategy & innovation Neil Schreuder describes this as a "once in a generation shift to online". Remarkably, no less than 20% of the people who now use Shoprite’s Sixty60 online shopping app are older than 50 — evidence, he says, that Covid-19 has sparked "a multigenerational" adoption of online shopping. One reason is that the elderly, who are more susceptible to the virus, are wary of visiting shopping centres. In May, an SA Council of Shopping Centres survey found that 22% of consumers weren’t comfortable visiting shopping centres and preferred buying online. "The pandemic has accelerated online sales penetration by at least two years," says Arthur Goldstuck, CEO of World Wide Worx, a technology market research firm. It predicts that Covid-19 will push online sales to 2% of SA’s total retail turnover by the end of this year — against 1.4% two years ago. And yet, for all this growth, the 2% figure is still insignificant by global standards. In the US, online sales account for 16.1% of total retail sales, according to the latest data analysed by Digital Commerce 360. In China, the figure is even higher, at 25%, while in South Korea and the UK it is 22%, according to consulting firm McKinsey. "In the majority of cases, [online sales] equate to the revenue of one or two large stores, even for the more proactive retailers who’ve invested heavily in building online capacity," says Brian Thomas, a co-portfolio manager at Laurium Capital.

Digital dilemma

This underscores the dilemma faced by local retailers feeling the pressure to expand online: why focus on digital platforms, which require significant investment, when traditional bricks-and-mortar stores still rake in the bulk of revenue? And, more to the point, why do so when it could end up cannibalising physical store sales?

Evan Walker, a portfolio manager at 36One, says this dilemma partly explains why local retailers have resisted investing in online retail "for years", and now find themselves "way behind the curve". While Covid-19 has forced them to play catch-up, they’re having to do so at a time when the domestic economy faces its bleakest outlook since the turn to democracy. "Online shopping is a must for all the big listed retailers, but the problem is that it’s going to erode their bricks-and-mortar store base and isn’t going to make them any money," says Walker. "From a shareholder perspective, that doesn’t add much value because customers are still going to buy the same amount, but it’s going to cost retailers a lot of money and effort to build a working online presence. "The problem is that they’re in a catch-22, because if they don’t do it, they’re going to end up losing market share to those that do. "Schreuder says Shoprite’s Sixty60 app didn’t cost all that much to develop, as the company had already invested heavily in improving its IT systems. It meant that when Covid-19 began pushing shoppers online, Shoprite could capitalise on the trend. Other than extra labour and training costs for its in-store pickers, the cost of handheld devices and delivery arrangements, many of the building blocks were already in place. "The main thing we’ve done is build code," says Schreuder. "Because we have such a big geographic footprint we were able to use the proximity of our stores to the addressable market to our advantage. "However, Ninety One’s Van den Berg believes retailers won’t be able to avoid additional investment as they expand their online presence. He argues that as e-commerce becomes more important to retailers’ revenue, they will have to reconsider their current model of outsourcing logistics. That will require more cash, and will probably lead to retailers buying equity stakes, or full control, of their logistics partners. "If they want to maintain a good handle on quality and efficiency, they will have to look at moving the logistics function in-house as they grow in scale," he says. "Just look at Takealot, which initially used Mr Delivery as a third-party provider but eventually bought it to in-source the logistics function. The experience overseas also tells you that greater scale implies a greater need to in-source logistics." Of course, Van den Berg says, SA is a "materially different" economy to developed markets such as the UK or US — which means the structural impediments to greater online retail penetration can’t be ignored.

For example, apart from a broken postal system and high crime, varying living conditions add to the challenges of delivering goods. In rural areas and some townships, addresses can be hard to locate. And in the suburbs, the high walls and electric fences are an obstacle. "In the UK you can, fairly easily, order five pairs of shoes in different sizes, try them on and then return those you don’t want. In SA it’s not that simple," says Van den Berg. "It’s not as easy for Mr Price or Sportsmans Warehouse to deliver shoes to an address in SA as it would be in the UK."

Profit squeeze

But if retailers are going to have to plough immense amounts into online platforms, what does this mean for investors? One immediate consequence is that their profit margins will fall. As it is, SA retailers enjoy notably higher margins than their overseas counterparts — particularly in high-end fashion and clothing, where gross profit margins can exceed 50%. But as e-commerce thrives, these margins will take strain, particularly as pure online rivals — including Takealot, Superbalist and HomeChoice — make inroads. This isn’t exactly good news for investors, who’ve seen stocks tumble this year: Pick n Pay has fallen 26.9%, Woolworths has lost 22.8%, and Spar has shed 6%. Among grocery retailers, only Shoprite has defied the mood, rising 8% this year. Nor have other retailers been spared: Massmart (-37.7%), Dis-Chem (-35%), Pepkor (-34.5%), Mr Price (-27.2%) and Clicks (-11.8%) have all lost ground. Still, those willing to invest in online retail are likely to win in the longer term. "SA retailers have operated almost like mini-monopolies," says Walker. "They haven’t had that much competition but online is going to change that." Takealot has already emerged as SA’s biggest e-commerce platform, with market research firm Statista ranking it first by revenue, with $69m earned in 2019, followed by Makro ($36m) and Builders Warehouse ($16m), based on a store-by-store analysis. With Statista saying that 35% of South Africans bought at least one product online in 2019, it’s a no-brainer that online retail will grow as consumers become more accustomed to transacting online. The World Retail Congress ranks SA among the top five countries to watch (outside the world’s 30 biggest online markets) based on a projected e-commerce compound annual growth rate of 13.2% until 2022. "In major metros like Joburg, Durban or Cape Town — and even smaller regional centres like Bloemfontein, East London and Port Elizabeth — growth in online shopping will continue despite structural impediments like internet access and logistics," says Casparus Treurnicht, portfolio manager at Gryphon Asset Management.

These structural impediments don’t only pose a challenge when getting the product from the warehouse to the consumer; they can be an even bigger issue for customer returns. Walker calls this "reverse logistics", and says it’s probably the biggest hurdle to meaningful online retail penetration in SA. "Transactions sometimes go wrong and that’s where customer frustration creeps in," he says. "Every retailer has a different methodology when it comes to returning goods or rescheduling deliveries. Do they give you an online credit or do they return money to your credit card? Food retailers often don’t have stock, which means you then sit with an online credit that you have to spend at a later date." While online credits make sense for relatively inexpensive everyday grocery items, they become problematic when dealing with expensive one-off purchases. Walker recalls his own experience of buying an inverter online, only for it to be returned to the warehouse as he was not home at the time of delivery. But the inverter had then been sold to someone else — leaving him with a large credit as the retailer was out of stock mid-lockdown. "What do you do if you want to return something, especially an expensive one-off item?" asks Walker. "Sometimes online shopping feels more frustrating than it’s worth." One solution, says Walker, would be to integrate more independent third-party providers into retailers’ logistics systems. "We have thousands of Uber drivers and guys on scooters, many of whom are now without work, who could handle these deliveries," he says. And this is just the first headache for retailers, battling to adjust to a far more digital-intensive post-Covid world. Walker says other, bigger challenges loom. "The next problem for retail is that the big international brands like Nike are already looking at how they can bypass the middleman and sell direct to the consumer," he says. "That’s the next challenge."

How Shoprite’s Sixty60 blitzed the competition

Shoprite’s Sixty60 app has taken the online grocery market by storm since it was piloted in eight stores in the Western Cape and Gauteng in late 2019. Still in the testing phase as recently as February, the mobile-only app came into its own during the lockdown as virus-wary consumers dodged shopping centres. "Based on the number of active orders we’re receiving and the growth that we’re experiencing, I am very comfortable that we are a leader in this space," says Neil Schreuder, Shoprite’s head of strategy and innovation. "We already have more than 700,000 app downloads, and our app has been ranked as the No 2 shopping app after Takealot. "Even before Covid-19, Schreuder says the appetite for online grocery shopping far exceeded his expectations. During the app’s pilot phase last year, demand was four times higher than Shoprite had forecast. The pandemic only accelerated this: Schreuder says actual sales during the lockdown exceeded Shoprite’s predictions twentyfold. "Since the lockdown, order volumes have rocketed," he says. "If anything, the demand sparked by Covid-19 caught us a little by surprise, but we managed to get fit by running, so to speak." Sixty60 is now available in 100 stores (up from 87 at the end of June) and will be extended to more than 150 by the end of the year. Shoprite says this will give it access to more than 80% of the addressable online grocery market in SA. So how was Shoprite able to do it all so quickly?

Schreuder says part of the reason is that it adopted a different model to that of dedicated online giants such as Amazon: instead of building standalone fulfilment centres that require huge upfront investment, Shoprite chose to use its more than 2,000 stores as a launchpad for its e-commerce strategy. Which does create some limitations. For example, though the app allows customers to choose from more than 7,000 products, each order is limited to 30 items. "We increasingly live in a world of instant gratification, so Sixty60 is aimed at the daily shopping basket, rather than the big month-end shop," says Schreuder. "The endgame of online grocery retail is fast and now." That’s why the app is called Sixty60. When it was first conceived, Shoprite’s team wanted to offer customers a way to place orders within 60 seconds, with delivery completed in 60 minutes. Then they worked backwards from that goal to figure out how to integrate their existing infrastructure with the app, in-store pickers and a third-party delivery team. However, it hasn’t been seamless.Though more than 80% of current orders are fulfilled within an hour, Schreuder acknowledges that one of the challenges has been completing orders when one or more items are out of stock. Shoprite initially solved this by allowing in-store pickers to select a second-choice item on the customer’s behalf, but that is being phased out. From October, the app will allow customers to select their second-choice items upfront when placing orders. "We want to empower the customer as much as we can so multiple-substitution optionality is coming," says Schreuder. Shoprite is also considering expanding the Sixty60 basket-size limit beyond 30 items. It’s working with its logistics provider, RTT Couriers, on a plan to use larger vehicles for bigger orders. Asked whether Shoprite would consider insourcing the logistics, Schreuder says he doesn’t see that as necessary right now. "Our arrangement with RTT Couriers is such that the drivers who fulfil our orders are 100% dedicated to Shoprite," he says. "Though we co-designed the on-demand driver and distribution technology, we own the branding and the experience … the drivers who deliver our orders are dedicated to Sixty60 only."

Pick n Pay plays the long game

You wouldn’t know it, but Pick n Pay’s online shopping service, launched in 2001, is the oldest digital grocery platform in SA. Its 2020 annual report also describes it as "the largest online grocery business in Sub-Saharan Africa".That’s largely premised on the fact that the retailer’s Grocery Essentials on-demand service, through its partnership with Bottles, operates out of more than 100 stores across 22 towns and cities in the country.Whether its claim of being the largest online service in the sector still holds is debatable: Shoprite has crept up on Pick n Pay, expanding the reach of its Sixty60 app to 100 stores, and it’s planning to grow further. This is one of the reasons some analysts tell the FM that Pick n Pay has dropped the online shopping ball — though not everyone is so critical."[CEO] Richard Brasher is doing a good job of turning Pick n Pay around by investing in price points, improving the look and feel of older stores to give them a more deli-like feel, and expanding the distribution network," says Hannes van den Berg, a portfolio manager at Ninety One. "I don’t think the market is giving him enough credit. Brasher is playing the long game with Pick n Pay and I think his strategy is going to pay off."

Woolworths battles to find its feet

Woolworths Holdings provides extensive detail on its online sales, which accounted for 8% of its R78.26bn in turnover for the year to July. That’s up from 5% the previous year, underlining Woolies’ ambition to expand this channel. Online growth in its SA food business has been particularly impressive at 57.2%, even if this still contributes just 1.2% to overall food sales. Its SA fashion, home and beauty business grew online sales at 35.4%, but this amounted to 2.6% of the division’s turnover. "One would have expected Woolworths to have performed better in the online space as it caters very much to the prime demographic that is open to the online experience," says Casparus Treurnicht, portfolio manager at Gryphon Asset Management. "Shoprite seems to have stolen a march on it." Woolworths’ performance during the lockdown was abysmal: anyone who tried ordering groceries online would’ve been confronted with a wait of days. Ironically, that may have been due to the company’s focus on quality, particularly of refrigerated items. "Woolworths has placed a very big focus on its cold chain system, which is by far the most advanced and best run cold chain system in SA," says Brian Thomas, portfolio manager at Laurium Capital.

"However, the problem is that because there’s been so much focus on cold chain management and quality, it’s not always that easy to effectively manage small online orders from individual stores."As one might expect, the group’s best e-commerce performance is in Australia, where David Jones grew online sales by 74.1% in the last year, contributing 14.2% to its overall turnover.Ideally, the group will apply the lessons learnt in the more developed Australian market in SA.Another dilemma is that, as it says in its 2019 annual report: "The rise in shopping online means that most retailers, ourselves included, have too much space for our future customers."The catch-22 of seeing online sales growth cannibalise store sales — and space — may, in fact, affect Woolworths more than others, given that its high-end offering is probably among the best-suited to e-commerce."Online is still a model that Woolworths is grappling with," says Evan Walker, portfolio manager at 36One. "It’s still getting its systems right." The group’s performance during the lockdown reveals it still has a way to go.

TFG’s ambitious plan to double online sales

TFG has 29 retail brands, ranging from Foschini to Markham, American Swiss, Totalsports and @Home — all of them ideally suited to digital sales.But online sales accounted for just 8.4% of TFG’s retail turnover of R35.3bn for the year to March 31 2020. The company wants to more than double this."Our target is for e-commerce to contribute up to 20% to group retail turnover in the medium to long term," says Kathryn Sakalis, head of TFG’s marketing and e-commerce division.The plan seems achievable, if you consider that with 23 of the group’s 29 brands available online, digital turnover for TFG Africa grew by more than 100% for the six months to September. All 19 of TFG’s local e-commerce sites are accessible through a single site, myTFGworld, or on the app.Still, not all is rosy at TFG. Some of its UK businesses are struggling, bad debts have been worsened by Covid-19 and the company has to integrate the 382 Jet stores it bought from Edcon for R480m. That’s at least partly why it conducted a R3.95bn rights issue in July (albeit at a 42% discount to the share price).Ramping up investment in e-commerce was also one of the reasons TFG gave for issuing new shares."The Jet acquisition was a good one — there is a lot to fix, but [TFG] paid less for it than the stock on hand was worth," says Hannes van den Berg, portfolio manager at Ninety One.

"Foschini is a good business with a diverse range of brands. Its main problem was that it went into the pandemic with too much debt on its balance sheet, hence the rights issue."Still, the group has a lot of work to do to achieve its lofty e-commerce ambitions. Online sales may account for 8.4% of turnover, but Van den Berg says this drops to just 4.5% when you look at the SA business alone.The investment in state-of-the-art IT needed to facilitate TFG’s online expansion is also likely to soak up cash and management time.However, Laurium Capital portfolio manager Brian Thomas says TFG’s exposure to the more sophisticated UK market, where online sales account for 31% of turnover, has clear benefits for the company’s local strategy."TFG’s acquisitions in the UK have helped it learn lots of lessons from the online experience of the companies it’s bought," he says. "That means it doesn’t have to pay those school fees through trial and error in SA."Which is just as well: TFG’s gross margin, at 52.7%, is hefty — and investors will be watching to see whether the new investment curbs this dramatically.

Massmart needs to up its Game

Massmart has been suffering from mass headaches recently. Forced to close 23 underperforming DionWired stores before the lockdown, it then reported a loss of R1.17bn for the 26 weeks to July.One reason for the loss was undoubtedly the five weeks of level 5 lockdown, which slashed sales of alcohol, tobacco and hardware products.Massmart is also mulling the sale of 11 underperforming Masscash stores, which include lower-tier brands like CBW, Jumbo Cash & Carry, Trident and Cambridge Food.Question marks also hang over Game, even if the company says it’s sticking by the brand."At one stage, my sense was that Massmart might do away with the Game brand name and just put everything under the Makro banner. But it now looks like it will retain Game," says Casparus Treurnicht, portfolio manager at Gryphon Asset Management.Massmart’s commitment to Game was recently underscored with its rollout of a "future-ready" concept store at the Mall of Africa in Joburg, which features self-checkout, electronic labels and price-check booths.Ninety One portfolio manager Hannes van den Berg says that in his view Massmart should be building its online strategy around Makro and Builders. Makro certainly seems to have a positive online shopping experience, with statistics portal Statista ranking it the second-largest standalone online retail brand by revenue, after Takealot.Still, online sales contributed only 2.1% of Massmart’s overall sales in its recent half-year results. But the trajectory was important: online sales grew 95% over that time.Click and collect is also proving popular, growing by 160% at Builders, 100% at Game and 84% at Makro during the first half."The question is whether [the group] can replicate the positive experience of the Massmart online shopping platform with Game," says Treurnicht.

Spar quietly goes online

Spar’s business model is somewhat different from those of most other SA supermarket chains, as it’s more of a wholesaler and logistics operator than a bricks-and-mortar retailer.Almost all its 2,349 SA stores are independently owned, while the plan is to sell the 50 that belong to the company when the opportunity arises, says Kerry Becker, the group’s head of investor relations."Ideally we want to [maintain] a voluntary trading model comprising independently owned retailers," she says.Spar’s model makes it difficult to find information about online sales revenue, because the owners don’t typically provide that detail. Each owner also has a different online model: some offer click-and-collect services while others just allow orders to be placed over the phone or by WhatsApp.Still, Becker says that in response to Covid-19 the group has launched Spar Online, which offers internet support to independent owners.There are 16 stores using this system in a trial phase, with three already choosing it as their platform.The system allows customers to buy goods online from their local Spar and either collect it or opt for delivery. Initially the top 500 products most suited to online retail will be offered."If [Spar] can get its online interface right, it can potentially do well in that arena," says Evan Walker, a portfolio manager at 36One. "The franchisee will have a vested interest in making sure it works well because it will directly translate into store sales. Spar also has a big liquor business in the form of Tops, and alcohol is ideally suited to online delivery."

Clicks and Dis-Chem: slow and steady wins the race

Their sale of high-value baskets of nonperishable items positions Clicks and Dis-Chem well for e-commerce.The pharmaceutical sector is also ripe for consolidation, as small mom-and-pop pharmacies are increasingly battling to compete with the two behemoths.Brian Thomas, portfolio manager at Laurium Capital, says dispensary sales at independent pharmacies usually make up about 65%-75% of total revenue. At Clicks and Dis-Chem, it’s the other way round, as they rely increasingly on nonprescription items."Together, Clicks and Dis-Chem probably have about 50% of the local pharmaceutical market, and they could quite easily grow that to 70% or 80% just by squeezing out the smaller independents," Thomas says.Interestingly, Clicks refuses to disclose what percentage of its revenue of R31.35bn in the year to September 2019 came from online sales, saying only that it is "not yet material".However, CEO Vikesh Ramsunder does say he expects online sales to grow to between 5% and 10% of sales within the next decade.At first glance that seems modest, but the assessment is probably on target when one considers that Dis-Chem tells the FM that online sales for this year contributed just 1.3% to its R23.9bn in revenue to March.Dis-Chem has averaged 28,000 online orders a month this year between March and August, the average basket size being R812.That suggests that if Dis-Chem and Clicks merely carry on with their slow and steady online growth, coupled with continued further squeezing out of independents, a tailwind for both these giants will be created.

Can Pepkor take its value proposition online?

Pepkor, with 5,415 stores and 56,100 employees, is one of those businesses that is easy to underestimate — until you glance at its market capitalisation and realise it’s valued at more than R40bn.Its value proposition is one of the most attractive for SA’s emerging-market consumer base, but the question is whether that can translate into online success.While the staple brands of Pep and Ackermans are still the engine room, Pepkor is expanding into new areas. Its fintech offering Flash is available at 180,000 merchants and sells everything from airtime and data to electricity. And it has launched a counter-to-counter service called Paxi, delivering between 8,000 and 10,000 parcels a day.Pepkor tells the FM its e-commerce approach is to allow each brand to follow its own strategy. So hardware chain Buco launched its online platform in October 2019, Refinery followed suit recently and Shoe City is set to do the same in the next month. Ackermans offers a click-and-collect service, and plans are afoot to launch full online shopping next year.WHAT IT MEANS:The switch to online will bring with it a number of challenges, including the danger of cannibalising existing stores Casparus Treurnicht, portfolio manager at Gryphon Asset Management, says the lower-value segment isn’t where online retail is likely to perform right now."The bulk of [Pepkor’s] operating profit — roughly 88% — is made in the fashion segments, but I do not expect online to affect this business tremendously," says Treurnicht.E-commerce arguably makes more sense at Pepkor’s higher-value electronic and furniture divisions, such as Incredible Connection and HiFi Corp, which reported a more than three-fold increase in sales in the four months of the lockdown to August.Nonetheless, Treurnicht says physical stores will remain important to Pepkor for some time. "I see the value offered by Pep, Ackermans and Refinery in them being destination stores for lower LSM [living standards measure] customers — the majority of whom still prefer to do bargain hunting in person," he says.

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