McColls Retail Group – A Transformational Deal?

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McColl’s Retail Group is a chain of 1,352 “convenience” and “newsagent” stores. After the market closed last night they announced the acquisition of 298 convenience stores from the Co-Op with a placing to fund part of the cost. The company described it as a “transformational deal”.

McColl’s Retail (MCLS) listed in 2014 but the share price has headed mainly downhill since. Revenue last year was £932 million with profits before tax of £21.1 million. I bought a few shares earlier this year and attended their AGM in April (and wrote a report which gives some more background to the company which can be found here).

The stores are either branded Martins or McColls which is somewhat odd (indeed in my local area there are the two kinds quite close together – I did visit them to see how they appeared and I would rate the stores I saw as somewhat “basic” but with room for more products).

IGD have forecast growth in the convenience store sector of about 2% per year in future. Shopping is moving to more “little and often” in style with “food-to-go” on the rise and more “top-ups” to people’s main shopping trips. Comment: You can of course see these trends in other retailers with the major chains opening “local” branches and Greggs expanding their food-to-go offerings so there is also more competition.

But the sector has some strategic challenges. The first one was the Government policy on the Living Wage as the company has many low paid employees. The threat of Brexit has also had an impact as it has on retailers in general. Those factors and others led to the shares being on a historic p/e of 8.5 and yield of 7.75% on the day of the deal announcement.

The acquisition of the Co-Op shops will give them another 298 convenience stores with an EBITDA of £16.4m in 2015 (excluding central costs which presumably may be largely lost as McColls can absorb those in their existing systems). They are paying £117m in cash which implies they are paying a multiple of 7.1 times EBITDA, or 5.9 times when adjusted for freeholds and rent.

The deal is being financed by a placing at a discount of only 2.7% to the previous share price to raise £13.1 million with the rest financed by a bank facility. The new shares will represent 10% of the enlarged share capital (i.e. that’s the dilution).

Will the debt cost impact future dividends? Firstly the company states that they expect the transaction to be significantly earnings enhancing as one could also deduce from the figures above. McColl’s like many retailers generates good cash flow, and pays out a high proportion of profits in dividends – historically 60%. They plan to reduce that to 50%, but even so it seems likely the dividends would rise rather than fall unless the business goes seriously wrong in some way (for example by not retaining the Co-Op shoppers).

Clearly there is some risk in the deal from the increased debt and rebranding/re-organising of the Co-Op stores but it certainly looks an attractive deal and the share price has risen this morning as a result.

Roger Lawson

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