BROKERS’ NOTES: Buy Stor-Age, sell Dis-Chem

Gary Booysen, portfolio manager: Rand Swiss

Buy: Stor-Age  

High interest rates tend to crush real estate investment trusts. Internally, the higher cost of debt can lead to lower profitability. Externally, tighter financial conditions usually reduce real estate demand from tenants. At the investment level, previously attractive distributions become less competitive as fixed-income yield improves. That is not a pretty picture for investors.

But one property company that has proved its resilience, even in the toughest environment, is Stor-Age. Self-storage businesses can still do well under extremely tough conditions. When firms and individuals increase or decrease their space requirements, self-storage businesses benefit. You can see this in the impressive Stor-Age occupancy figures. When economic activity picks up, a storage business can do even better than in hard times. That’s the kind of business I want in my portfolio.

An added benefit, when you compare Stor-Age with other landlords, is that load-shedding has almost no effect. As you can imagine, other than a few energy-saving bulbs and an alarm system, there isn’t much to power. This warehouse-type space tends to have a very low energy footprint. Even high inflation is less of a concern for Stor-Age than for other landlords, as leases tend to have a shorter duration and reset quickly. 

The stock offers a chunky 9.84% distribution at present and is inexpensive, at 7.93 times earnings. It’s also starting to attract more institutional investors. The Public Investment Corp, for example, recently raised its holding to above 15%. As the company grows and more institutional investors see value, it’s reasonable to expect the group to command a higher multiple. 

And, if rates fall over the next three to five years, it should provide an additional tailwind to the sector. In that environment, you could see significant upside.

Sell Dis-Chem  

Despite a rip-roaring rally following Dis-Chem Pharmacy’s latest interim results, I am avoiding the stock for now. Investors who bought into Dis-Chem five years ago are still down -8.7%, even when you include dividends.

In the years following its JSE listing the company intended to pursue an aggressive expansion and to capture market share from independent pharmacies and major corporate competitor Clicks. I believe the ambitious plans have led to elevated execution risk. According to the group’s strategic “prongs” it plans to win market share aggressively by increasing trading space. Management is using the Gauteng metrics as a template and clearly believes that more square metres are the answer to more market share.

I am, however, not entirely convinced this is the best course of action over the longer term. Internationally businesses like CVS Health Corp and Walgreens Boots Alliance have performed poorly even as “defensive” investments. They also command much lower multiples than their South African counterparts. The underperformance began partly with the entry of retail juggernaut Amazon into the pharmacy market. And what happens internationally usually filters back to South Africa, eventually.

Unless Clicks and Dis-Chem can offer a compelling online delivery model sooner rather than later, there is a good chance that the current extended multiples will unwind. Remember, Shoprite, a pioneer of online delivery via Sixty60, is also a viable competitor in the pharmacy world with its Medirite chain.

This is an expensive sector with a great deal of very competent competition. That is wonderful for all of us as consumers, but not always appealing from an investment perspective.