Mr Price wants to become the most valuable retailer in Africa, which is ambitious. Today, it’s maybe the fifth biggest retailer in Africa with about one third of the market capitalisation of the largest. Achieving its objective will require some doing – and a lot of growth!
Having retreated from off-shore escapades in Australia and Poland, and showing tentative appetite for expansion in the rest of Africa, the implication of this statement is that growth must come from South Africa. But how?
Our understanding is that while value is most often determined by a company’s shareholders, management does have control over earnings. To this end, Mr Price articulates multiple actions that it is undertaking for organic and inorganic growth. Recent organic growth has been disappointing, however – something that we predicted as early as November – and total growth has benefited from three sizeable acquisitions over recent years.
A matrix of future opportunities has been a feature of Mr Price’s analyst presentations for a few years now. This matrix stratifies different product categories (Apparel, Homeware, Financial Services & Telecoms and E-commerce) into different product segments (Value, Aspirational, Premium and Luxury).
In the most recent results presentation, Mr Price also showed a breakdown of consumer spending by LSM (Living Standard Measure – a widely used but flawed measure of income, now replaced by the SEM) that showed the significance of higher LSM groups to total expenditure in South Africa. Customers in LSM groups 8-10, earning more than cR15k pm, make up just 25% of households but 56% of expenditure.
Management commented that Mr Price had never ‘tackled’ the upper-income end of the market. The more subtle point is that future endeavours into this end of the market promise rich margins, which management expects might offset the potential margin dilution from recent acquisitions in the Value segment.
In other words, expanding from its current stronghold as a Value retailer into the higher-income end of the market is important, both for sales growth – given the absolute size of this market – and for sustaining Mr Price’s margin into the future.
How should investors evaluate this strategy? Is it reasonable?
What follows is, we believe, the most detailed retailer-level decomposition of the South African Apparel market, across income and product segments, available to investors or retailers.
We build on Mr Price’s segmentation of the apparel market into Value, Aspirational and Premium, based on 660,000 actual transactions by 45,000 22seven users at 140+ clothing and footwear retailers, split between four income brackets. The income bracket segmentation is important because South Africa’s notoriously wide income distribution means that consumers are not homogenous: What is Value to one consumer is Premium to another.
The objective of this report is to assist Mr Price shareholders in better understanding the context of the group’s starting position within the Apparel market; to better understand organic growth prospects; and to expose the opportunity set for inorganic growth.
In doing so, we highlight some hard truths about the structure of the South African Apparel market and conclude with a very short-list of potential acquisition targets in the upper-income segment. We identify these based on size, investability, and the likelihood of being a good-fit for Mr Price, based on preferences in their customers’ transaction behaviour.
We don’t know what Mr Price is incubating internally to catapult the growth of its existing brands, or what it might pay for an acquisition, but when the next deal is announced, don’t be surprised if it’s on this list…
The focus of this report is the Apparel market. Based on your feedback and interest, we can replicate this analysis for Home and other categories. Contact us and share your views.
Value to whom?
Every retailer positions its brand to influence consumer perception and to differentiate itself from competitors.
When retailers analyse a market, they often use a two-by-two matrix to visually represent how a retailer (subjectively) believes its brand offers something unique. Quality and Price are usually the variables, or in the clothing market, the level or type of ‘Fashion’ and Price.
Value, Aspirational and Premium are terms used to group retailer positioning on such a matrix. In a clothing market, for example, with Fashion increasing from left to right and Price increasing from bottom to top, Value retailers would be positioned in the lower left area. In that sense, Value retailers offer basic clothing with a few fashion features, at a reasonable price.
Aspirational retailers cluster closer to the middle of the matrix and sell fashion that most consumers want to wear but can’t afford to.
Premium retailers are at the top-right, selling high-fashion items that are only attainable to the few consumers who are prepared to pay a significant sum.
In a market where consumers are relatively homogenous, this type of analysis can be useful. But it requires more nuance in a market like South Africa, where we have a wide income spectrum and where price is a key variable in how a consumer perceives a brand. In other words, a consumer's income level will determine how they perceive a brand, which results in situations where – for example – one customer perceives a retailer as Value and another customer considers the same retailer as Premium.
Our goal is to estimate the market share of each retailer within four income brackets, and to stratify that share by segment (i.e. Value, Aspirational and Premium). We believe that such a granular understanding of where a retailer currently attracts its trade will reveal opportunities for expansion into new segments.
We start by decomposing the clothing and footwear market based on the contribution of different income brackets to total expenditure. We use the data provided by Mr Price for this.
Next, we categorise 22seven users into income brackets aligned to the LSM categories in the Mr Price report, and we identify transactions at more than 140 clothing and footwear retailers.
We can now consider market share for each product segment. But how to segment the market into Value, Aspirational and Premium? These are subjective marketing terms and they largely have to do with price. In other words, the price that customers are willing to pay to shop at a certain retailer is an indication of that retailer’s positioning to those customers. Using that logic, we can analyse transaction values to determine which segment a retailer fits into.
To go into more detail about our method… We ranked each retailer by the median transaction value of all user transactions within each income segment, then we segmented the retailers within each income group using the following rule: The transaction values of Value retailers rank in the bottom 55%, Aspirational retailers rank between 55-80%, and Premium retailers rank in the top 20%.
If that’s a lot to take in, maybe the following chart will make it easier to visualise. Each dot is a retailer and corresponds to the median transaction value at that retailer by 22seven users in the specific income bracket. The retailers in the bottom half are seen as Value retailers to the users in that income bracket, the next 25% are Aspirational retailers, and the top 20% are Premium retailers.
(Note that that median transaction values appear to cluster at specific values – many dots at the same horizontal level. Our rule to segment retailers into Value, Aspirational and Premium might be subjective but it takes guidance from these thresholds or price levels.)
Some observations from this chart:
- The upper transaction values for each segment increases with income. In other words, what customers pay at some Value retailers in the highest income bracket is what customers earning R7.5–15k pm pay at a Premium retailer.
- The number of dots increase with income, meaning that higher-income customers shop at more retailers than lower-income customers. For example, customers earning R25k+ pm shop at 75 Value retailers, whereas customers earning R7–15k pm shop at only 26 Value retailers. This is a significant observation that will become more apparent when we estimate market value in the next step.
- The samples are large and the data is amazing, but it isn’t perfect. Insights tracks transactions at more than 140 clothing and footwear retailers, but there are likely to be more. We also ignore instances where there are fewer than 30 transactions at a retailer in an income bracket. Finally, we do not include Woolworths in this analysis because we’re unable to distinguish clothing transactions from food and the majority of its revenue is food.
Having categorised every retailer into a product segment for each income bracket, we then added up the value of spending by customers at each retailer. This allows us to estimate the contribution of each segment to spending in each bracket, and to disaggregate each segment by retailer. The graphic below shows how spending in each income bracket is allocated to Value, Aspirational and Premium retailers.
Some observations:
- The doughnuts are sized to mirror the contribution of each income bracket to total expentiture. This proportion is shown in the centre of the donut. For example customers earning more than R25k pm account for 31% of total spending, customers earning R7.5-15k pm account for 24% of spending and so on.
- In the two lower-income brackets, market share by product segment aligns with the rule used to categorise retailers: Value retailers c55%, Aspirational retailers c25% and Premium retailers 20%. This implies that the higher frequency of transactions at Value retailers offsets the lower average transaction value.
- In the two higher-income brackets, spending at Value retailers accounts for more than 62% of total spending. This has to do with the distribution of transaction values in the higher-income segments: Even after controlling for outliers, there are some retailers where users spend very large amounts, but the low frequency of purchases does not compensate for this high transaction value.
The next graphic shows the top five retailers by market segment and income bracket.
We’re delighted you’ve read this far. But investment research is only valuable if it’s exclusive. To be fair to the retailers and investment teams who subscribe to Insights, we have to say goodbye before we get to the juicy bits.
Get in touch to find out how our research can help you. simon.a@22seven.com
