The Retail Food Group Limited (ASX: RFG) share price has fallen 25% in the last 12 months, and is down nearly 40% from its peak of $7.33. The company holds the unfavourable distinction of being one of the most short-sold companies on the ASX, with 12.7% of its shares held for short-sale as of last week.
(If you need a refresh on what 'short selling' is, you can check out this article)
Retail Food Group appears to be short-sold for several reasons:
- Recent changes to accounting policy may see the company's liabilities increase due to the inclusion of operating leases on the balance sheet (RFG and its bankers have repeatedly stated they are OK with the changes, which apply to all companies)
- The company recently downgraded profits and wrote off part of a marketing fund in part due to continued underperformance at Michel's Patisserie
There are also a garden variety of other fears regarding possible loss of foot traffic in shopping centres due to Amazon, high shopping centre rents squeezing out franchisees, reported high franchisee turnover at RFG franchises, and so on. Retail Food Group might find itself in the position of having to reinvest heavily in brands and marketing which could crimp profits and dividends in the near term.
The key issue
The crux of the issue in my view appears to be the lack of visibility of franchisee profits. Retail Food Group's franchisees carry the costs of setting up and operating the franchise store, and paying licensing fees to Retail Food Group. Retail Food also has company-operated stores, but typically it has a capital-light and higher-profit business model because most of the costs are worn by franchisees.
This means that the actual profitability of the franchisees (if you take the risk of running a franchise outlet, you want to make $$) is difficult to discern from outside and, since Retail Food depends heavily on its ability to sell new franchises to members, its business will suffer if prospective franchisees view the opportunity as a poor one.
Notably fellow major franchise business Domino's Pizza Enterprises Ltd. (ASX: DMP) is also heavily short-sold, with 11% of its shares held for short-sale, slightly below RFG. By contrast, restaurant operator Collins Foods Ltd (ASX: CKF) has barely any shares short-sold, just 0.13%, despite having a high debt load and comparable price to Retail Food Group. In my view this is at least partly because Collins Foods is a restaurant operator, so investors can see precisely how profitable its outlets are on average.
I continue to hold my Retail Food shares and take the view that, while these concerns are very 'in your face', over the next 5 years the company has good opportunities internationally, and the attractiveness of its brands and financial position remain strong. Factor in the 6.7% dividend at today's prices and it doesn't take much for the company to be a market-beater from here.
