WELCOME TO OUR ONLINE ANNUAL REPORT 2011

Masswarehouse divisional review

HIGHLIGHTS
  • Makro’s Food Division achieves turnover of more than R5 billion for the first time
  • New Vaal store opened
  • Introduction of fresh produce into the Makro offering
  • Strengthening skills and capacity in fresh supply chain
  • Conditional offer to acquire Fruitspot
  • Sold two Makro Zimbabwe stores


  • Now 14 stores in South Africa
  • Food, liquor, general merchandise
  • Liquor and general merchandise LSM 6-10 and Food LSM 2-6

Masswarehouse achieved record results in a dificult trading year with four stores generating sales of more than R1 billion each. Makro’s food division achieved turnover of more than R5 billion for the first time and our Liquor Division also achieved record turnover of more than R2 billion maintaining its position as one of South Africa’s leading liquor retailers.

Our business model remains based on the warehouse club format primarily focused on branded consumer goods including food, liquor and general merchandise, targeting resellers, commercial end-users and the consumer.

Private label brands underwent an extreme makeover during the past year which saw some non-value peripheral brands being discontinued. We have embarked on an aggressive new store development plan over the next three years.

Given developments in that country, our two stores in Zimbabwe were sold during the year. The results of these stores had been deconsolidated from our financial statements for several years.

The Makro formula

The Makro model is unusual in that it sells General Merchandise to retail customers while much of its Food and Liquor is sold to wholesale customers. This blend gives the brand a robustness that enables it to trade comfortably through most economic cycles. The big-box warehouse club format with our no-frills approach keeps costs down and provides the platform for our high-volume, low-margin sales offering of quality branded merchandise. Our customer database created by Makro store cards used at the point of purchase helps us to keep track of the spending patterns of our 1.5 million active members and we communicate regularly with them through targeted promotional material.

Our value proposition

Makro’s offerings are tailormade to fit a variety of customer needs across all our merchandising categories.

Our food offering caters to wholesale shoppers ranging from informal traders and grocery store owners to hoteliers, restaurateurs, offices and schools. Wholesalers account for up to 80% of Makro’s food sales and most shop during the week for the convenience of our wide range of good-value, quality consumables. At weekends, our focus shifts to promoting good buys for retail food and grocery shoppers who can achieve substantial savings on their monthly household basket compared with other mass retail outlets.

Our liquor offering also caters to both the retailer and wholesale customer. Our liquor outlets, immediately adjacent to our main outlets, continue to increase their range of premium brands especially in wine and whiskey. These products are sold at a low margin to maintain and grow our share of the market. At the same time we have maintained a strong presence of beer and budget brands for liquor wholesalers looking for good value.

MASSWAREHOUSE
FINANCIAL PERFORMANCE

    2011 2010 2009
    52 week 52 week 52 week
Sales Rm 12,722.9 11,501.2 11,102.4
Trading profit before interest3 Rm 749.0 685.4 713.0
Trading profit before interest as % sales % 5.9 6.0 6.4
         
Net finance income Rm 54.2 57.8 89.6
Trading profit before taxation3 Rm 803.2 743.2 802.6
Trading profit before taxation as % sales % 6.3 6.5 7.2
         
Operating profit before taxation Rm 780.5 738.5 808.2
Operating profit before taxation as % sales % 6.1 6.4 7.3
         
Inventories Rm 1,239.2 1,161.0 1,159.2
Inventory days days 42 44 45
         
Net capital expenditure1 Rm 188.4 77.3 102.3
Cash flow from operating activities Rm (7.3) 246.3 145.5
         
Number of stores   14 13 13
Trading area m2 128,417 118,208 117,859
Average trading area per store m2 9,173 9,093 9,066
Number of employees   2,877 2,644 2,805
         
Sales per store R000 908,779 884,708 854,031
Sales per m2 R000 99 97 94
Sales per employee R000 4,422 4,350 3,958
1. Net capital expenditure is defined as capital expenditure less disposal proceeds.
2. The ratios have been calculated using year-end balance sheet figures.
3. Trading profit is earnings before asset impairments, BEE transaction IFRS 2 charges and foreign exchange movements.
4. The above results exclude Makro Zimbabwe. Details can be found in note 8.
5. Definitions/explanations to the ratios and terms above can be found here.

During the financial period we introduced a fresh fruit and vegetable offering in one of our stores, the new Vaal store. This is in support of Makro’s strategy to be a complete one-stop shop servicing different customer segments. This will now be rolled out to all new Makro stores and retrofitted to existing stores based on store requirements.

Our general merchandise offering caters almost entirely to the retail customer, but does attract some commercial buyers in areas like office furniture and stationery. We offer high-quality well-priced merchandise from all major durable brands and are often market leaders with innovative offerings and aggressive promotions.

Our operating environment

Makro is a predominantly cash-focused business and consumers’ spending power is therefore integral to our performance. For much of the financial period under review, with consumer spending under pressure and a post-World Cup spending hangover, there was a discernible shift in consumers’ spending behaviour towards promotional items. Unit sales of promotion items grew by 18.7% compared with non-promotional unit sales growth of 6.7%.

Consistent deflation in most categories of general merchandise was due to the strong Rand and product deflation and varied from the mid-20% in categories such as Hi-tech, Multimedia and Interactive to an average deflation of 5.0% across other general merchandise categories. At the same time, there was low inflation in the food and liquor categories. The only category to show positive inflation during the year was clothing which was largely driven by increases in cotton prices.

This deflation meant that Makro had to grow unit sales at extraordinary levels to maintain the same levels of nominal sales as the previous financial year, let alone demonstrate growth. Despite this, we managed to deliver a solid trading performance reporting sales growth of 10.6% on the previous year.

During the year, a new store was opened in the Vaal bringing the total number of Makro stores in South Africa to 14. As part of the new store’s design, some notable changes and innovations were implemented to enhance the customer’s shopping experience. These included positioning the interactive department as part of the multimedia, hi-tech and photographic department and providing a one-stop customer experience by including a fresh food offering. More retail-oriented toiletries and textiles areas were also installed and will be rolled out to all new Makro stores and retro-fitted to existing stores where possible.

The introduction of fresh produce in our Vaal store was an exciting development in the evolution of Makro and we plan to roll out the concept to existing stores and all new stores will have a full fresh offering. This strategy will help Makro gain profitable share in the Fresh category while also driving up customers’ basket sizes. To support the drive to deliver fresh produce, Makro has a conditional offer to acquire fruit and vegetable distributor and wholesaler Fruit Spot, providing an important link in our fresh solution supply chain.

Financial performance

A solid trading performance was reflected in sales for the year totalling R12.7 billion up 10.6% over the previous year. Comparable sales growth was 6.9% and sales inflation was measured at deflation of 0.4%.

Although gross margin grew more slowly than sales, operating income grew 11.0% to R2.2 billion through improved control over shrinkage, stock ageing and rebates receivable.

General merchandise was the fastest-growing category with sales up 14.2% on the previous year while liquor grew 9.4% and food 8.9%.

Capital expenditure for the year amounted to R189 million up from R144 million spent in 2010. The increase included R78 million for the new Makro Vaal store.

The networking capital cycle improved by 5.0% as stock days’ forward cover reduced by 16.5% compared with the previous year.

Trading profit before tax increased from R743 million to R803 million, but this included new store pre-opening expenses of R14 million.

Improving efficiencies

Makro’s robust growth can be attributed to its low-cost, low-margin, high-volume business and we retain a relentless focus on improving efficiencies to achieve this. We managed to keep comparable expense growth to only 5.6% over the year.

Makro implemented significant application enhancements to its information technology (IT) systems focused on supporting our supply chain strategy. The Green-Light Receiving functionality now enables stores to receive stock from the Makro Regional Distribution Centre (RDC) automatically with minimal user intervention. At the same time, functionality was improved to improve time efficiencies at different phases of the receiving process.

We continued with our systems upgrade strategy by re-implementing the SAP Customer Retention Management application used to recruit, manage and communicate with our customer base. As part of this process, customer-centric processes were introduced to specifically manage the customer repairs process and communication with customers as well as to record interactions with customers at our customer contact centres in the stores.

In order to drive efficiencies and support the group’s sustainability drive, we also embarked on a process to virtualise the store-based IT server infrastructure. The key objectives of the project were to reduce the number of servers at store level, make better use of available server processing capabilities, deploy the latest virtualisation technology and reduce our overall carbon footprint. As part of this project, we implemented handheld scanners equipped with Bluetooth functionality to facilitate the scanning of products at the point of sale, improving the accuracy and processing time of invoices.

As part of the hardware replacement strategy, Makro continued with its drive to refresh point-of-sale hardware devices at stores. This will enable us to take advantage of new available hardware technology and to enhance our customers’ experience at the point of sale by reducing downtime in stores. Makro continues to make progress with the rollout and implementation of the SAP Forecasting and Replenishment module and functionality across more supplier and product categories with the aim of significantly reducing stockholding in stores while improving service levels.

Investing in Africa

Customer demand will drive our expansion into new markets and categories particularly on the African continent. Our strategy is to create scale through regional supply chains, access appropriate potential markets and gain secure sites to enable the regional rollout of stores. Consideration of local infrastructure, population size and potential spend remain important criteria as we look to expand Makro’s African footprint.

Investing in our human resources

Our transformation plan focuses on four areas: recruitment and selection from designated groups; training and development of Black employees; affirmative action to source and identify talent; and employing people with disabilities. Diversity training for both management and employees is a key component of our transformation strategy.

Our BBBEE score improved to 73.8% this year (2010: 71.3%) making us a Level 3 contributor. More than 70% of our staff members are black and more than 30% are black women.

Makro ensures the development of a strong pipeline of talent across all management levels by offering our staff market-related remuneration, providing rewarding incentive schemes and world-class training and development opportunities. Although our remuneration packages for employment equity candidates at top and senior management may be above market-related salary packages, a major challenge remains the retention of senior management from these designated groups. In total, 18% of our senior managers and 22% of top management are black, compared with 77% at skilled technical level and 53% of professionally skilled staff. Our retention strategy at senior management level is linked to exposure to Massmart shares which vest over set timeframes.

Makro believes in empowering employees through educational opportunities and has sponsored 48 employees to study in tertiary institutions through our bursary programme. In addition, a total of 4,436 employees undertook various training courses last year. This included 161 black employees who were included in fast-track skills development programmes and 497 participants who enrolled in learnerships. We also employed 63 people with disabilities and 32 employees with a hearing disability were enrolled in Adult Education and Training learnerships.

Through our Impilo Wellness and Careways support programme, voluntary HIV and Aids counselling and testing was provided to 1,743 members of our staff. We now support 64 staff on antiretroviral treatment.

Makro prides itself on its open lines of communication and encourages feedback from all levels of staff. We communicate with our staff through a variety of channels including newsletters and executive communication sessions. Members of executive management visit all stores monthly where they interact with management and staff. Formal reviews with each of the merchandise divisions at head office level are also held. The CEO conducts six monthly briefings of larger groups and certain milestones are celebrated throughout the year like long service awards. Senior executives gather on an annual basis for discussions and briefings on developments in Makro and the greater Massmart Group.

Investing in our community

Each Makro store sponsors CSI initiatives that help the communities situated close by. At a divisional level, Makro supports the Excellence in Schools programme through the respective provincial governments for schools that improve their academic performance. We donated R800,000 each to the Departments of Education in Gauteng, KwaZulu-Natal and Western Cape as well as R200,000 to The Tomorrow Trust which assists orphaned and vulnerable children to pass their school exams and pursue further educational opportunities. A further R500,000 was provided to the Izzi Trust which seeks to provide financially-disadvantaged children with access to better-quality education.

Makro continues to sponsor 500 meals a day through the African Children’s Feeding Scheme which reaches children in poor communities in Soweto. We also support the Starfish Foundation and Impilo, a home for orphaned and vulnerable children affected by HIV and Aids.

During the reporting period we made more than R62 million in early payments to black-owned suppliers to help them better manage their cash flow. Approximately 4.5% of our total procurement spend is on black-owned businesses.

We also continue to provide training, cover marketing expenses and provide discounts to various customer Banner Groups. These members meet to select products for upcoming specials and members’ Makro cards are loaded with details of the promotional prices. SMS alerts are sent to them when their discounts have been activated. We believe that we have helped many small entrepreneurs grow their businesses in this way.

Investing in our environment

Our new Vaal store was designed and all future Makro stores will be designed to deliver significant energy savings. These include making use of natural lighting for the trading floor and with motion detectors activating overhead lighting in the offices. An energy-efficient refrigeration plant installed at Vaal not only consumes half the energy used by traditional refrigeration processes, but also uses technology to reclaim all heat generated by the refrigeration units to heat up hot water geysers.

The Vaal store will serve as a blueprint for other stores and also uses high-efficiency glass doors on the freezers and automated sliding doors to reduce the energy needed to keep products cold by 70%. These initiatives saved approximately 165,800 Kwh per month at our Vaal store.

The recycling of dry waste initiative is gaining momentum and generated income for the division of
R1.5 million (2010: R1.1 million).

In conjunction with IT company Fujitsu, the Makro ”E-waste” container hubs at all Makro sites continue to be widely used by the public. The containers allow customers to safely dispose of their electronic waste such as laptops, desktops, printers, monitors and cellphones. These are then reused, recycled or deployed, preventing hundreds of kilograms of electronic waste ending up in the country’s landfills.

We were also the first retailer in South Africa to embark on a programme with Eskom where rebates were offered to customers who exchanged their old electric cooking appliances for gas cookers.

We offer three recycled stationery brands under the brands “Remarkable”, “Renewed” and “Recycled”. These are presented in stationery departments as part of our Eco-wise offering. In addition, the number of environmentally-friendly products under suppliers’ own labels continue to grow.

Wherever possible, our merchants are requested to support products that are green like ensuring that the wood used is from sustainable forests and is certified by the Forest Stewardship Council (FSC). Approximately 90% of our office furniture range is now sourced from FSC-approved factories.

All our promotional broadsheets include energy-efficient products including solar lighting and we have listed an efficient alternative for every make of light-bulb category. Almost all new products listed in the past year in appliances have an “A” energy-efficiency rating. The shift from cathode-ray television sets to LCD and LED television sets has also enabled consumers to use more energy-efficient products in their homes. All paint sold at Makro is now lead-free and new environmentally-friendly solvents from Plascon have been listed at our stores. Most of our multinational suppliers now also use recycled inner packaging for their products.

 

Risks and rewards

Economic recovery is far from certain in the coming financial year and we will continue to drive our low-cost, high-volume strategy by leveraging supply chain efficiencies to support aggressive growth.

A working committee was formed to ensure the introduction of processes and controls to enable us to comply with the Consumer Protection Act (CPA). Organisation-wide training took place to enable staff members to cope with the requirements of the legislation. The committee continues to ensure compliance in our marketing and acts as a channel for tracking and facilitating the resolution of customer complaints under the CPA. In addition, regional supplier workshops were held and product specification documents and test reports have been requested from all Makro suppliers for uploading on Massmart’s centralised CPA website.

To ensure control and improve on current standards, service contracts have been initiated with independent specialists to perform audits on food safety and handling and occupational health and safety audits. Each Makro site’s Occupational Health and Safety performance will be audited bi-annually and food safety reviews are conducted each quarter.

MASSWAREHOUSE DIRECTORATE

Grant Pattison
Chairman
Kevin Vyvyan-Day
Chief Executive
Bruce Cayzer
Food Director
Norman Drieselmann
Financial Director
Don Frieson
Non-executive Director
Non-executive Director
Non-executive Director
Garry Hendry
Liquor Director
Doug Jones
Commercial Director
Derick Kalan
General Merchandise Director
Gert Lourens
Operations Director
Chris Nezar
Marketing Director
Pieter Schoeman
IT Director
Mike Spivey
Non-executive Director
Llewellyn Steeneveldt
Non-executive Director
Donovan Wright
HR Director
Ilan Zwarenstein
Non-executive Director

In order to address the issues associated with the selling of TV licences and linking a TV licence to the sale of a specific television, a new integrated solution was implemented in conjunction with the South African Broadcasting Corporation (SABC) to enable the reconciliation of TV licences with televisions sold and to minimise any potential financial penalties Makro may incur.

Because Makro has relatively few stores situated in less accessible locations compared with mall-based retailers, we rely on price leadership to differentiate us from competitors. Our comparatively higher volumes per store allow us to use our buying power and pass on cost savings to our customers. Cost control therefore remains an important focus for the business.

We continue to work within the legal and regulatory frameworks to source land in strategic locations at appropriate prices for future development which may include interested and affected parties where we face town planning obstacles.

We anticipate that real labour costs will continue to rise and we will need to manage our labour costs carefully. The issue of using temporary workers was separated out of the 2011 union wage negotiations and will be addressed in the next financial year.

Future outlook

Makro continues to look for opportunities to expand its national footprint. We have secured sites for new stores in Polokwane, Nelspruit and Milnerton and plan to open these during the 2012 financial year. We are in discussions with developers in other areas including Durban North, Cape Town and Bloemfontein as well as exploring potential opportunities in Africa.

One of our main efficiency drives is to recover and entrench our wholesale advantage by taking control of our own inbound and internal supply chain rather than being dependent on supplier-managed supply chains.

We expect increasing inflation in food categories over the coming year and anticipate that consumer spending will remain under pressure. As a result, we will continue to focus on remaining relevant to all our customers by ensuring that our offering remains appealing in all aspects; that we include new and innovative merchandise; provide easy-to-navigate stores and readily accessible stock; employ informed and professional sales staff; and guarantee a customer-centric ethos.