CHIEF EXECUTIVE’S REPORT

R13.3 billion
group turnover

David Kneale
Chief Executive Officer

The operating margins of both Clicks and UPD benchmark favourably against comparable international businesses.

Trading performance

Economic conditions remained challenging throughout the past year. Consumers have therefore remained cautious and a strong value offer has been core to attracting customers into stores. While we have seen the early signs of recovery in the latter part of the year, this has not flowed through to sales of more discretionary products.

Retailers have also experienced a significant reduction in selling price inflation which has effectively halved in our business over the past year.

In this environment the Clicks Group produced another strong performance and entrenched its leadership position across the health and beauty markets.

Group turnover increased to R13.3 billion. Retail turnover across Clicks, Musica and The Body Shop rose 14.7% to R9.7 billion, driven by the performance of Clicks stores which continued to deliver excellent real growth and lifted turnover by 16.7%.

The market-leading performance of Clicks should be seen in the context of total retail sales in South Africa for the period which increased by 5.3%, while the overall pharmaceutical and medical goods, cosmetics and toiletries category was 8.1% higher.

The entertainment markets are the toughest in which the group operates. However, Musica remains the market leader and has held its commanding market shares in CDs and DVDs without discounting margins. The Body Shop too delivered a creditable performance as discretionary spending in the luxury beauty market remains under pressure.

UPD maintained its leadership position in the private pharmaceutical wholesale and distribution market. Turnover increased by 5.2% and by 12.2% on a comparable basis as distribution agency sales generated by UPD are no longer reflected in turnover.

Operating margin increased by 40 basis points to 6.2%, with the margins of both Clicks and UPD benchmarking favourably against comparable international businesses.

The group’s performance is covered in detail in the Chief Financial Officer’s Report and in the Operational Reviews.

Clicks Group has entrenched its
leadership position across the
health and beauty markets

Group strategy

The group’s strategy is founded on two key objectives:

  • Pre-eminence in health and beauty retailing; and
  • Pre-eminence in healthcare supply and pharmacy management.

Encouraging progress has been made against both of these objectives. Health and beauty merchandise now accounts for 80% of sales in Clicks and the business has gained share in all its core merchandise markets, with pleasing growth in emerging categories such as fine fragrance and ethnic hair care. Clicks has expanded its store base to 369, grown the ClubCard customer base to more than 3 million and been independently rated as the country’s first choice health and beauty retailer.

In the healthcare supply and pharmacy arena we have grown our pharmacy network past the 250 mark with the opening of 44 dispensaries in the past year, growing our share of the retail pharmacy market to 13.6%. UPD has a leading share of the private pharmaceutical wholesale market and has experienced strong growth in its sales to Clicks pharmacies, the Link pharmacy buying group and also to export customers.

Our strategy, focus areas for delivering the strategy and our medium-term financial targets are detailed here and here.

Our strategic objectives are supported by two strategic enablers: firstly, enhancing capability to deliver sustained performance. We are creating a performance-driven organisation where our people can learn, grow and be rewarded fairly. Talent development and succession planning processes are being embedded across the group, a transparent job evaluation system has been implemented and staff are surveyed annually to assess their commitment. These measures contributed to a reduction in staff turnover from 26% to 20%.

Our IT systems landscape is currently being reviewed to ensure we can support continued business growth. The focus will be on improving technical agility, using fewer systems, applying simpler processes and over time reducing the cost to run the systems. IT-related capital expenditure has been increased for 2011 to support this process.

The second enabler is efficient cash and capital management. The group’s ROE has continued its strong growth trend and improved from 42.3% to 50.8% in the past year. We have set a new medium- term target for ROE of 50% to 60%. Our progress in managing cash and capital is covered in the Chief Financial Officer’s Report.

The two biggest challenges we face in delivering our strategic objectives are the sourcing and registration of private label products in Clicks and addressing the shortage of pharmacists.

Private label is core to the Clicks growth strategy. We plan to increase the contribution from private label and exclusive branded products to 25% from the current 18%. Failure to source and register quality private label scheduled medicines, over-the-counter drugs and front shop products at appropriate margins could impact negatively on our longer term profitability.

The group is currently the largest employer of pharmacists in the private sector. The shortage of healthcare professionals is an industry challenge which could limit our ability to expand the Clicks pharmacy network and also increase costs.

Both of these challenges are covered in the Clicks Operational Review and in the Risk Management Report.

Healthcare regulation

We welcomed the publication of draft regulations on a maximum dispensing fee which may be charged by retail pharmacists. The proposed four-tier pricing structure will provide a fair return to pharmacists and bring much-needed stability to the pharmacy sector.

While the regulations provide margin opportunity for Clicks our focus in the short term will remain on price competitiveness and gaining market share.

It should be stressed, however, that the uncertain regulatory environment of the past six years has not impacted on our trading or performance.

We would also urge the Department of Health (DoH) to finalise regulations relating to the maximum logistics fee that can be paid to pharmaceutical wholesalers. This would help to level the playing field and manage costs along the pharmaceutical supply chain.

The ability of Clicks to expand its range of private label scheduled medicines could be constrained by the pace of the medicine registration process. We are working in co-operation with the Medicine Control Council to accelerate the speed at which new, lower-cost generic drugs can be brought to market. This will enable patients to benefit from the lower cost of healthcare.

44
new pharmacies
opened

Primary healthcare

The healthcare agenda needs to move beyond regulation to focus on improving the delivery of primary healthcare in our country. Healthcare costs are likely to spiral unsustainably in the absence of an effective primary healthcare system. A cost-effective solution needs to be implemented as the government moves towards implementing its National Health Insurance programme.

We believe retail pharmacy can play a central role in this delivery and would welcome the opportunity of working together with the Pharmaceutical Society of South Africa to make this a reality. We continue to engage with government to consider retail pharmacy as a partner in the delivery of primary healthcare, and building the pharmacy profession to be the gatekeeper to primary healthcare delivery.

Pharmacists are ideally positioned to provide more accessible and lower-cost health advice and services, without compromising patient care. These services could include family planning and immunisations, while patients should be able to collect chronic medication from pharmacies. This would help to alleviate pressure on state hospitals and clinics while reducing costs to consumers. Pharmacists and nurses need to be empowered to prescribe a broader range of scheduled medicines to reduce the cost of patient care.

Clicks is well positioned to provide these primary healthcare services through its national network of in-store dispensaries and clinics. We have partnered successfully with the DoH in using our pharmacies for the national HIV counselling and testing campaign started earlier this year.

Sustainability

Clicks Group is committed to adopting sustainable business practices to ensure the long-term competitiveness of the operations. The initial focus of our sustainability activities is on driving efficiency, transformation, product-related opportunities and supply chain initiatives. Sustainability targets are in the process of being incorporated into our operating plans and will be disclosed in the annual report from 2011.

Our progress in this area has resulted in the group qualifying for inclusion in the JSE Socially Responsible Investment Index for the first time in 2010. This is based on an independent evaluation of our environmental, social, governance and sustainability practices.

We continue to invest for sustainable growth and since 2005 have invested R1 billion in our customers, staff, stores and systems.

Employee share ownership

We plan to introduce an employee share ownership scheme to retain and attract scarce and specialist skills which are critical to the sustainability of the business. Through this scheme, 10% of the group’s shares would be issued at market price to all permanent employees, excluding senior executives participating in the group’s long-term incentive scheme.

Pharmacists, senior black managers and longer serving employees will receive higher share allocations. This scheme will enhance our ability to attract pharmacists into Clicks and give them an opportunity to share in the long-term growth and capital appreciation of the group.

Extending share ownership to all employees will accelerate transformation and build on the progress made across the other areas of black economic empowerment, particularly employment equity, skills development, preferential procurement and socio-economic development. Approximately 70% of the shares will be allocated to black people, with 60% of these being black women.

The scheme is subject to shareholder approval at a general meeting in January 2011.

Management

Keith Warburton has resigned as chief financial officer and will be leaving the group in the first quarter of 2011. He has made an enormous contribution and has been central to the group’s performance over the past five years. We will miss Keith and wish him well.

We are pleased to have appointed Michael Fleming from Tiger Brands to succeed Keith. Michael has a great reputation and his experience in FMCG will add another dimension to the executive team.

Vikesh Ramsunder has been appointed to succeed Lynda van Niekerk as managing director of UPD. Vikesh was head of logistics in Clicks and it is most pleasing to have made an internal promotion in this position. We thank Lynda for the role she played in leading UPD during a period of unprecedented change in the pharmaceutical wholesaling industry.

We also welcomed Sean Kristafor as general manager of The Body Shop to replace Carol Poolton, whom we thank for the leadership of the brand over the past seven years.

Prospects

The strategic objectives outlined above remain core to the future of the business. Healthcare and beauty are both growing markets in South Africa and we will maximise organic growth opportunities in these markets to gain share and ensure sustainable competitive advantage. The group is well positioned to expand the Clicks store and pharmacy network to 500 in the medium term and to capitalise on new revenue opportunities in UPD. The franchise agreement to operate The Body Shop in South Africa has been renewed with the international parent company for a further 10 years.

Our medium-term operating margin target has been increased to 6.0% – 7.0% to reflect the group’s improved performance and prospects.

Appreciation

The group’s record performance can be attributed to the commitment, energy and passion of everyone in the business. Thank you to our chairman, David Nurek, as well as my fellow directors for their guidance and support over the past year. Our people have again delivered to the highest standards and I thank them for a job well done.

Thank you to our customers for making us their first choice in health and beauty retailing and supply.

David Kneale

David Kneale
Chief Executive Officer