Business description
Pepco is a multi-national retail chain, which is indirectly owned by the South African company Steinhoff and which is currently in the process of conducting an IPO on the Warsaw Stock Exchange. The original offering comprised 102.7m shares (17.9% of the total) of Pepco’s management (1.2% of the offering) and Pepco Holdco (98.8%), which is controlled by Steinhoff that needs cash in order to repay debt. Pepco, whose first day of trading on the Warsaw Stock Exchange is scheduled for May 26, was valued during the bookbuilding at PLN 40 per share (initial IPO price range was PLN 38-PLN 46) or PLN 23bn/EUR 5.08bn. The final number of sold shares equals 80.4m and is worth PLN 3.2bn. Given its market capitalization, Pepco will likely become member of the Polish WIG20 bluechip index soon.
Pepco was founded in 2014 as a subsidiary of the South African company Pepkor SA and is currently 98.8%-owned by Pepco Holdco, which is controlled by one of the largest furniture companies worldwide, Steinhoff. The company is a discount variety retailer and its target group are families, who care about their wallets, meaning those with below-to-average incomes.
The company’s operations can be divided in four segments:
(1) PEPCO
PEPCO was established in Poland in 2009 and offers various products in the “all for one dollar” format e.g. clothing, pet food, toys and household goods. Apart from Poland, it also operates in 12 other countries including Romania, Hungary, Czechia, Slovakia, Croatia, Lithuania, Slovenia, Latvia, Estonia, Bulgaria, Italy and Serbia. PEPCO’s >2,100 stores are located in small and medium-sized cities and have 350-550 sqm. In 2021 and the coming years, it plans to open new stores and enter new markets e.g. Spain.
(2) Poundland
Poundland opened its first store in 1990 and has since then expanded its network to c. 920 shops in the UK and Ireland. Its offering comprises everything from food, health & beauty, cleaning & pet products and clothing. The retail chain’s pricing ranges above and below one pound.
(3) Dealz
Dealz is a brand of Poundland and through currently 150 stores is present in Ireland, Spain and Poland. The chain mainly offers basic necessities such as food, drugstore products and clothing.
(4) PGS
PGS provides sourcing, product development and technical services for Pepco’s brands. It is present in mainland China, Hong Kong, Bangladesh, Pakistan and India, from where it supports PEPCO, Poundland and Dealz stores with USD 1bn worth of goods every year. It also has contracts with external retailers from around the world.
Financials
With total sales split almost evenly between PEPCO and Poundland, in fiscal-year 2019/20 Pepco generated EUR 3.5bn of revenues, which corresponds to a y-o-y growth of 3% and LFL (same store) decline of 5.2%. While UK accounted for 42.7% of total sales, Poland and Rest of Europe contributed 25% and 32.3% respectively in 2019/20.
In 2018-2020, Pepco’s top-line grew at a CAGR of 7.6%. Last year, gross margin declined from 42.3% in 2018/19 to 40.7% and EBITDA (pre-IFRS 16) reached EUR 228.9m (-31.2% y-o-y; 2y CAGR = -9.1%). The EBITDA margin equalled 6.5% compared to 9.7% in 2018/19. Due to lower EBITDA and higher net financial costs net income was negative (EUR -0.5m vs. EUR 210.4m in 2018/19). However, positive was the strong increase of the operating (EUR 579.6m vs. EUR 182.1m in 2019) and free cash flow (EUR 414.2m vs. EUR 51.3m). At the end of September 2020 (end of fiscal-year 2019/20), net debt amounted to EUR 328.3m (2019: EUR 460.6m) or 1.4x of EBITDA (pre-IFRS 16).
Summary & Conclusion
We believe that at PLN 40 per share Pepco is an attractive investment in the long run. Based on information in the IPO prospectus, we expect that in 2020/21 total sales will increase by 7% y-o-y to EUR 3.8bn, but at a higher gross and EBITDA margin y-o-y. In 2020/21, Pepco plans to open 450 new stores, thereof 320-350 Pepco, 30 Poundland and 100 Dealz, with expected CAPEX of c. EUR 250m and EUR 200m per year in the medium term. Based on our estimate, the implied EV/Sales would be 1.4x compared to 2.2x for Dino Polska (fast-growing grocery chain in Poland), 1.5x for CCC (Polish shoe retailer) and 1.9x for LPP (Polish fashion retailer).
We are optimistic that Pepco will continue to develop well going forward. We like the focus on the “thifty” consumer with below-to-average incomes, who e.g. in Poland will have more spending power from 2022 due to tax reductions and subsidies for families that are foreseen in the recently published “New Order” government program. In our view, the planned opening of new stores in mainly CEE/SEE is positive as consumption in these countries will likely continue to increase at higher levels than in Western Europe due to rapidly growing GDP and incomes.