Announcements

GCR affirms Lewis Group Limited’s rating of A(ZA); Outlook Stable

Johannesburg, 24 August 2015 — Global Credit Ratings has today affirmed the national scale ratings assigned to Lewis Group Limited of A(ZA) and A1(ZA) in the long term and short term respectively; with the outlook accorded as Stable.

SUMMARY RATING RATIONALE

Global Credit Ratings has accorded the above credit rating(s) to Lewis Group Limited based on the following key criteria:

Lewis reported muted revenue growth and stagnant operating income in F15, with the operating margin falling from 24.2% in F13 to 20% in F15 (F14: 21.8%). This was in part a function of the compression in the gross margin that was witnessed in F14 and F15, which in turn resulted from the impact of the weaker domestic currency on imported goods and the group’s limited pricing power in a competitive market. However, much of the margin compression emanated from higher debtor charges, which rose 22% to R858m in F15 (consisting of a R165m increase in impairment provisions and R693m in write-offs).

Lewis’ debtors book has reported some deterioration over the past two years, but remains in adequate condition overall. In this respect, a stable 68.7% of debtors were classified as “satisfactory paid” at FYE15, while impairment provisions increased to R1.3bn against a R6.6bn gross book excluding unearned income (FYE14: provision of R1.1bn versus a R6.1bn gross book). Notably, since GCR initiated ratings coverage of Lewis, write-offs in any one year have not exceeded the total level of provisioning reported at the end of the prior year.

Notwithstanding the generally depressed domestic economy, the demise of Ellerines has significantly eased competitive pressures in the domestic market, and this enabled Lewis to acquire the Beares brand and its 61-store network in December 2014. This acquisition (costing R66.6m) has provided the group with critical mass in the higher-income market segment, and Lewis has taken the opportunity to consolidate the My Home brand into Beares.

The group continued to report sound credit protection metrics at FYE15, with net gearing relatively unchanged at 24% and net debt to EBITDA only slightly higher at 112% (FYE14: 105%). Furthermore, operating cash flow coverage of gross debt remained sound at 32% at FYE15 (FYE14: 34%), as did net interest cover at 9.3x in F15 (F14: 10.5x).

Lewis has been the subject of negative scrutiny from the press and from certain regulators, culminating in its referral to the National Consumer Tribunal (“NCT”). GCR has considered the potential negative financial and reputational ramifications thereof, as well as management’s response to the NCT. This response indicated that Lewis is largely disputing the referral, apart from certain loss of employment insurance contracts that were sold to pensioners and self-employed individuals. Specifically, premiums of R46m and accrued interest of R23m will be repaid to affected customers, with such premiums pertaining to an eight-year period. Accordingly, GCR is of the view that, apart from potential fines, the NCT inquiry is not likely to materially impact the financial wellbeing or future business volumes of Lewis. More concerning is the potential cap on credit life insurance premiums to R4 per R1,000 insured, as compared to the R8.75 per R1,000 that is currently charged by Lewis. Management has indicated that, in a worst case scenario, this could affect NPAT by 12%-15%. That said, the cap on credit life fees has been touted for several years, and the industry continues to await feedback from the relevant regulators. GCR will continue to monitor regulatory developments closely.

The domestic operating environment remains challenging, with low economic growth compounding structural unemployment and a highly-indebted/generally-embattled consumer base. While Lewis’ results have been resilient in comparison to its peers, these conditions are expected to prevail over the medium term.

Looking ahead, upward rating migration is only likely over the medium to long term, and would require an improvement in domestic economic conditions, and in particular consumer health. Conversely, material adverse findings in respect of the NCT inquiry into Lewis and/or changes in the regulatory environment that adversely impact finance and/or insurance income could affect the ratings. Additionally, significant deterioration in the performance of Lewis’ receivables book would negatively impact its credit risk profile, and could warrant negative ratings action.

NATIONAL SCALE RATINGS HISTORY

   
     
Initial rating (September 2013)    
Long term: A(ZA); Short term: A1(ZA)    
Outlook: Stable    
     
Last rating (September 2014)    
Long term: A(ZA); Short term: A1(ZA)    
Outlook: Stable    
     

ANALYTICAL CONTACTS

Primary Analyst    
Richard Hoffman    
Senior Analyst    
(011) 784-1771    
hoffman@globalratings.net    
     
Committee Chairperson    
Eyal Shevel    
Sector Head: Corporate and Public Sector Ratings    
(011) 784-1771    
shevel@globalratings.net    

APPLICABLE METHODOLOGIES AND RELATED RESEARCH

Criteria for Rating Corporate Entities, updated February 2015

Lewis Rating Reports, 2013-2014

RATING LIMITATIONS AND DISCLAIMERS

ALL GCR’S CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://GLOBALRATINGS.NET/UNDERSTANDING-RATINGS. IN ADDITION, GCR’S RATING SCALES AND DEFINITIONS ARE ALSO AVAILABLE FOR DOWNLOAD AT THE FOLLOWING LINK: HTTP://GLOBALRATINGS.NET/RATINGS-INFO. GCR’S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, PUBLICATION TERMS AND CONDITIONS AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE AT HTTP://GLOBALRATINGS.NET.

GLOSSARY OF TERMS/ACRONYMS USED IN THIS DOCUMENT AS PER GCR’S CORPORATE GLOSSARY

Budget Financial plan that serves as an estimate of future cost, revenues or both.
Cash Flow The inflow and outflow of cash and cash equivalents. Such flows arise from operating, investing and financing activities.
Credit Rating An opinion regarding the creditworthiness of an entity, a security or financial instrument, or an issuer of securities or financial instruments, using an established and defined ranking system of rating categories.
Credit Rating Agency An entity that provides credit rating services.
Credit Risk The possibility that a bond issuer or any other borrowers (including debtors/creditors) will default and fail to pay the principal and interest when due.
Debt An obligation to repay a sum of money. More specifically, it is funds passed from a creditor to a debtor in exchange for interest and a commitment to repay the principal in full on a specified date or over a specified period.
Default Failure to meet the payment obligation of either interest or principal on a debt or bond. Technically, a borrower does not default, the initiative comes from the lender who declares that the borrower is in default.
EBITDA EBITDA is useful for comparing the income of companies with different asset structures. EBITDA is usually closely aligned to cash generated by operations.
Financial Year The year used for accounting purposes by a company or government. It can be a calendar year or it can cover a different period, often starting in April, July or October. It can also be referred to as the fiscal year.
Gearing With regard to corporate analysis, gearing (or leverage) refers to the extent to which a company is funded by debt and can be calculated by dividing its debt by shareholders’ funds or by EBITDA.
Impairment Reduction in the value of an asset because the asset is no longer expected to generate the same benefits, as determined by the company through periodic assessments.
Interest Scheduled payments made to a creditor in return for the use of borrowed money. The size of the payments will be determined by the interest rate, the amount borrowed or principal and the duration of the loan.
Interest Cover Interest cover is a measure of a company’s interest payments relative to its profits. It is calculated by dividing a company’s operating profit by its interest payments for a given period.
Interest Rate The charge or the return on an asset or debt expressed as a percentage of the price or size of the asset or debt. It is usually expressed on an annual basis.
Leverage With regard to corporate analysis, leverage (or gearing) refers to the extent to which a company is funded by debt.
Liquidity The speed at which assets can be converted to cash. It can also refer to the ability of a company to service its debt obligations due to the presence of liquid assets such as cash and its equivalents. Market liquidity refers to the ease with which a security can be bought or sold quickly and in large volumes without substantially affecting the market price. 
Liquidity Risk The risk that a company may not be able to meet its financial obligations or other operational cash requirements due to an inability to timeously realise cash from its assets. Regarding securities, the risk that a financial instrument cannot be traded at its market price due to the size, structure or efficiency of the market.
Margin A term whose meaning depends on the context. In the widest sense, it means the difference between two values.
National Scale Rating The national scale provides a relative measure of creditworthiness for rated entities only within the country concerned. Under this rating scale, a ‘AAA’ long term national scale rating will typically be assigned to the lowest relative risk within that country, which in most cases will be the sovereign state.
Operating Cash Flow A company’s net cash position over a given period, i.e. money received from customers minus payments to suppliers and staff, administration expenses, interest payments and taxes.
Operating Margin Operating margin is operating profit expressed as a percentage of a company’s sales over a given period.
Operating Profit Profits from a company’s ordinary revenue-producing activities, calculated before taxes and interest costs.
Principal The total amount borrowed or lent, e.g. the face value of a bond, excluding interest.
Receivables Any outstanding debts, current or not, due to be paid to a company in cash.
REPO In a REPO one party sells assets or securities to another and agrees to repurchase them later at a set price on a specified date.
Risk The possibility that an investment or venture will make a loss or not make the returns expected. There are many different types of risk including basis risk, country risk, credit risk, currency risk, economic risk, inflation risk, liquidity risk, market or systemic risk, political risk, settlement risk and translation risk.
Shareholder An individual, entity or financial institution that holds shares or stock in an organisation or company.

SALIENT FEATURES OF ACCORDED RATINGS

GCR affirms that a.) no part of the rating was influenced by any other business activities of the credit rating agency; b.) the rating was based solely on the merits of the rated entity, security or financial instrument being rated; c.) such rating Was an independent evaluation of the risks and merits of the rated entity, security or financial instrument; and d.) the validity of the rating is for a maximum of 12 months, or earlier as indicated by the applicable credit rating document.

Lewis Group Limited participated in the rating process via face-to-face management meetings, teleconferences and other written correspondence. Furthermore, the quality of information received was considered adequate and has been independently verified where possible.

The credit rating/s has been disclosed to Lewis Group Limited with no contestation of the rating.

The information received from Lewis Group Limited and other reliable third parties to accord the credit rating(s) included:

  • Audited financial statements and the Integrated report for the year ended 31 March 2015;
  • Audited financial statements for 2010-2014 financial years;
  • Budgeted financial statements for the year ended 31 March 2016;
  • Recent SENS announcements;
  • Details of funding facilities and utilisation as at 5 June 2015;
  • Monthly collections data for January 2013 to July 2015;
  • A debtors analysis as at 30 June 2015; and
  • Comprehensive details of debt utilisation and debt funding facilities.

The ratings above were solicited by, or on behalf of, the rated client, and therefore, GCR has been compensated for the provision of the ratings.

GCR affirms Lewis Group Limited’s rating of A(ZA); Outlook Stable

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