annual report
2007

notes to the annual financial statements
for the year ended 31 March 2007


 
      group  
      2007   2006  
      Rm   Rm  
16. Cost of merchandise sales          
  Purchases   1 211.7   1 077.4  
  Movement in inventory   (17.7)   (56.8)  
  Cost of merchandise sales   1 194.0   1 020.6  
  Merchandise gross profit   614.8   547.2  
17. Directors and employees          
  17.1 Employment costs          
    Salaries, wages, commissions and bonuses   449.3   398.3  
    Retirement benefit costs   28.2   35.9  
    Other employment costs   4.1   5.7  
        481.6   439.9  
  17.2 Share-based payments          
   

As the fair value of the services received cannot be measured reliably, the services have been valued by reference to the fair value of shares and options granted. The fair value of such options and shares is measured at the grant date using the Black-Scholes model.

In terms of IFRS 2, share-based payments are required to be expensed over the vesting period. Any accelerated vesting of the awards and options requires immediate recognition of the unrecognised portion.

In the prior year, the former ultimate holding company GUS plc indirectly sold its controlling interest in the Lewis Group. This sale resulted in a change in control and in terms of the scheme rules, the awards and options issued at date of listing vested immediately.

         
    Value of services provided:          
    In respect of share awards and options granted subsequent to date of listing (refer note 17.3)   4.0   0.3  
    Charge relating to grants made at date of listing   –   58.4  
    Total share-based payment   4.0   58.7  
        R   R  
    Significant assumptions used were:          
         Weighted average share price   46.59   41.64  
         Weighted average exercise price (for options only)   n/a   41.60  
         Weighted average expected volatility   38.3%   28.0%  
         Weighted average expected dividend yield   4.9%   3.6%  
        Weighted average risk-free rate (bond yield curve at date of grant)   8.6%   7.9%  
   

The volatilities for the options granted after the date of the listing were based on the volatility of Lewis’ share price from the date of listing to the date of granting the share awards and options. The expected volatility for the share awards and options granted at the date of listing was based on a weighted average of the volatilities of similar listed entities.

          
  17.3 Share incentive schemes          
   

The employee share incentive schemes are in operation for employees, executives and directors holding salaried employment office. The aggregate number of shares which may be utilised for these schemes shall not exceed 10% of the issued share capital of the company.

In the prior year, the GUS group made available 4% of its shareholding for no consideration in order to meet the commitment of the share incentive schemes to deliver to the participants as a result of the immediate vesting of the share awards and options as a consequence of the disposal of their controlling interest.

          
    Lewis All Employee Share Scheme   No. of shares and options  
   

Employees receive their share awards granted at date of listing if they have been in continued employment with the group until the vesting date. Share awards vest between two and four years after grant date. In terms of the scheme rules, the share awards and options vest immediately, should there be a change in control.

          
    Beginning of year   –   1 101 254  
    Granted   –   1 888  
    Forfeited   –   (51 825)  
    Vested   –   (1 051 317)  
    End of year   –   –  
    Lewis Executive IPO Restricted Share Scheme          
   

Executives receive their share awards granted at date of listing if they have been in continued employment with the group until the vesting date. Share awards vest between three and five years after grant date. In terms of the scheme rules, the share awards and options vest immediately, should there be a change in control.

          
    Beginning of year   –   1 326 448  
    Granted   –   5 714  
    Forfeited   –   (32 702)  
    Vested   –   (1 299 460)  
    End of year   –   –  
    Lewis Executive Share Option Scheme          
   

Share options are granted to selected executives. The exercise price of the options is the average market price for the last three days, including the date of the grant or, in respect of options granted at date of listing, the listing price of the group’s shares. Options vest between three and five years and must be exercised within 10 years after being granted. In terms of the scheme’s rules, the options vest immediately, should there be a change in control.

          
    Beginning of year   841 271   807 829  
    Granted   –   188 276  
    Forfeited   (89 432)   (71 123)  
    Vested and exercised by payment of consideration   (89 423)   (83 711)  
    End of year   662 416   841 271  
        R   R  
    Average exercise price of outstanding options   28.00   30.89  
    Lewis Executive Performance Scheme          
   

In terms of the scheme, senior executives have been offered the right to acquire shares of the group for no consideration subject to the achievement of performance targets. The shares will vest after three years and is conditional upon the executive still being in the employ of the company other than in the event of death, ill health, retirement or retrenchment.

The performance targets are set by the Remuneration and Nomination Committee and are approved by the Board. These targets will be set at the beginning of each of the three years and a proportionate number of the shares granted will be allocated to each year.

No performance shares will accrue if the group achieves less than 90% of target. Any achievement between 90% and 100% of target will result in a proportionate accrual of shares weighted towards 100% of target.

          
      No. of shares and options  
    Beginning of year   –   –  
    Granted   205 400   –  
    Forfeited   (19 761)   –  
    Vested   –   –  
    End of year   185 639   –  
    Lewis Co-investment Scheme          
   

Senior executives are eligible for an annual bonus based on achievement of performance targets. These eligible executives can elect to invest all or part of their net bonus in the group’s shares (“invested shares”).

These shares are deferred for three years and matching shares equal to the before tax bonus are awarded for no consideration at the end of the period. The matching share award will lapse, should the executive terminate his or her employment before the completion of the three-year period other than in the event of death, ill health, retirement or retrenchment.

          
    The grant in respect of the matching share option is as follows:          
    Beginning of year   –   –  
    Granted   111 329   –  
    Forfeited   (14 672)   –  
    Vested   (7 335)   –  
    End of year   89 322   –  
   

Invested shares paid for through the investment of executives’ net bonuses amounted to 53 592 shares. These shares are held by the Trust on the executives’ behalf.

          
  17.4 Directors’ emoluments   R   R  
    Non-executive directors          
    Fees as directors          
       D M Nurek   440 000   225 000  
       H Saven   310 000   215 000  
       B van der Ross   230 000   130 000  
       F Abrahams   210 000   67 000  
       D Tyler (payable to GUS Holdings BV)   –   43 500  
               
        1 190 000   680 500  
               
    Executive Director – A J Smart (paid by subsidiary)          
       Salary   2 000 000   1 690 000  
       Bonuses   1 690 000   1 444 670  
       Contributions to pension scheme   320 000   270 400  
       Contribution to medical aid   37 362   32 736  
       Other material benefits   158 400   117 744  
               
        4 205 762   3 555 550  
               
        No. of shares and options  
    Outstanding share awards and options – A J Smart          
   

Share options awarded under the Lewis Executive Share Option Scheme vested as a consequence of the disposal of its controlling interest by GUS in the prior year. The exercise price of these options are R28.00. In terms of a written undertaking, A J Smart agreed not to dispose of any shares he may become entitled to under these awards prior to 1 October 2007.

  

219 428

  

219 428

  
   

Share award under Lewis Executive Performance Scheme granted on 30 June 2006 (refer to note 17.3).

  

44 573

  

–

  
   

Matching share options under Lewis Co-investment Scheme granted on 30 June 2006 (refer note 17.3). The Trust holds 21 806 shares on his behalf by virtue of his investment of his net bonus for 2006 into the scheme.

  

36 344

  

–

  
18. Lease commitments          
 

The group leases the majority of its properties under operating leases. The lease agreements of certain store premises provide for a minimum annual rental payment and additional payments determined on the basis of turnover.

          
  Payments on a cash flow basis:          
  Within one year   78.1   63.9  
  Two to five years   208.3   109.6  
  Over five years   1.2   2.2  
      287.6   175.7  
  Payments on a straight-line basis:          
  Within one year   81.9   64.0  
  Two to five years   196.3   103.5  
  Over five years   1.0   1.9  
      279.2   169.4  
19. Operating profit          
  Stated after:          
  Surplus on disposal of property, plant and equipment   3.8   6.0  
  Depreciation          
  Owned assets   38.5   33.2  
  Leased assets   0.4   1.8  
        38.9   35.0  
  Fees payable:          
  Investment management fee – insurance investments   1.6   1.4  
  Outsourcing of IT function   27.7   24.4  
      29.3   25.8  
  Operating leases – premises          
  Operating lease payments on a cash flow basis   92.6   80.9  
  Lease adjustment   2.1   (2.5)  
  Operating leases on a straight-line basis   94.7   78.4  
  Auditors’ remuneration          
  Audit fees – current year   1.0   1.0  
                     – prior year underprovision   0.1   0.1  
  Other services   0.6   0.7  
      1.7   1.8  
20. Investment income          
  Interest – insurance business   35.5   30.8  
  Dividends from listed investments – insurance business   5.6   4.6  
  Realised profit on disposal of insurance investments   1.6   5.8  
  Impairment of available-for-sale investments   –   (12.3)  
        42.7   28.9  
21. Net finance costs          
  21.1 Interest paid          
    Capitalised finance leases   –   0.2  
    Bank loans and overdrafts   26.9   12.5  
    Other   2.7   –  
        29.6   12.7  
  21.2 Interest earned          
    Bank   (2.7)   (5.9)  
    Other   (1.3)   –  
        (4.0)   (5.9)  
  21.3 Forward exchange contracts          
    Realised   (13.6)   4.0  
    Unrealised   0.4   2.0  
        (13.2)   6.0  
  21.4 Net finance costs   12.4   12.8  
22. Taxation          
  22.1 Taxation charge          
    South Africa   275.2   224.2  
    Foreign   16.7   13.4  
    Taxation per income statement   291.9   237.6  
    Comprising:          
    Normal taxation          
    Current year   270.3   261.1  
    Prior year   4.9   (2.2)  
    Deferred taxation          
    Current year   (9.2)   (42.0)  
    Prior year   (4.0)   (0.8)  
    Rate change   –   1.8  
    Secondary Tax on Companies   29.9   19.7  
    Taxation per income statement   291.9   237.6  
               
  22.2 The rate of taxation on profit is reconciled as follows:          
    Profit before taxation   890.2   686.3  
    Taxation calculated at a tax rate of 29% (2006: 29%)   258.2   199.0  
    Disallowed expenditure/(exempt income)   2.9   20.1  
    Secondary Tax on Companies   29.9   19.7  
    Prior years   0.9   (3.0)  
    Rate change   –   1.8  
    Taxation per income statement   291.9   237.6  
    Effective taxation rate   32.8%   34.6%  
               
               
23. Earnings per share   000’s   000’s  
  23.1 Weighted average number of shares          
   

Weighted average shares for earnings and headline earnings per share

   92 062   97 300  
    Dilution resulting from share awards and options outstanding   396   201  
    Weighted average shares for diluted earnings and headline earnings per share   92 458   97 501  
   

Diluted earnings and headline earnings per share is calculated by adjusting the weighted average number of ordinary shares assuming that all share options will be exercised. The dilution is determined by the number of shares that could have been acquired at fair value (determined as the average annual market price of the  shares) less the number of shares that would be issued on the exercise of all the share options.

          
        Rm   Rm  
  23.2 Headline earnings          
    Attributable earnings   598.3   448.7  
    Profit on disposal of property, plant and equipment   (3.8)   (6.0)  
    Profit on disposal of available-for-sale investments   (1.6)   (5.8)  
    Impairment of available-for-sale investments   –   12.3  
    Taxation   1.3   2.8  
    Headline earnings   594.2   452.0  
        Cents   Cents  
  23.3 Earnings per share          
    Earnings per share   649.9   461.2  
    Fully diluted earnings per share   647.1   460.2  
  23.4 Headline earnings per share          
    Headline earnings per share   645.4   464.5  
    Fully diluted headline earnings per share   642.7   463.6  
24. Dividends paid          
  Dividend No. 2 declared on 16 May 2005 and paid on 25 July 2005   –   74.0  
  Dividend No. 3 declared on 14 November 2005 and paid on 30 January 2006   –   88.0  
  Dividend No. 4 declared on 22 May 2006 and paid on 24 July 2006   137.0   -  
  Dividend No. 5 declared on 13 November 2006 and paid on 29 January 2007   116.0   -  
  Dividends received on treasury shares:          
      Lewis Stores (Pty) Ltd   (17.3)   (2.5)  
      Lewis Employee Share Incentive Scheme Trust   (3.9)   (2.6)  
        231.8   156.9  
25. Notes to the cash flow statements          
  25.1 Cash generated from operations          
    Operating profit   859.9   670.2  
    Adjusted for:          
        Share-based payments   4.0   58.7  
        Depreciation   38.9   35.0  
        Surplus on disposal of property, plant and equipment   (3.8)   (6.0)  
        Movement in debtors impairment provision   9.5   (17.4)  
        Movement in retirement benefits provision   (8.2)   3.4  
       Movement in other provisions   11.1   9.8  
    Changes in working capital:          
    Increase in inventories   (20.1)   (62.0)  
    Increase in trade and other receivables   (295.3)   (152.2)  
    (Decrease)/Increase in trade and other payables   (4.5)   53.7  
        591.5   593.2  
  25.2 Taxation paid          
    Amount owing at the beginning of the year   (159.8)   (125.6)  
    Amount charged to the income statement   (291.9)   (237.6)  
    Adjustment for deferred taxation   (13.2)   (41.0)  
    Amount owing at the end of the year   61.7   159.8  
        (403.2)   (244.4)  
  25.3 Cash and cash equivalents          
    Cash deposits and cash on hand   35.7   28.1  
    Overdrafts and short-term interest-bearing borrowings   (429.3)   (132.8)  
    Cash and cash equivalents   (393.6)   (104.7)  

26. Financial risk management
  

Executive management meets regularly to assess the group’s currency, credit and interest rate exposure and to decide on strategies for managing the risk. The manner in which the risks are to be managed on a daily basis and limits imposed on management in so doing are set out in a treasury policy which is reassessed and updated at these meetings.
  26.1 Credit risk management
   

Financial assets, which potentially subject the group to a concentration of credit risk, consist principally of cash at bank, investments and trade receivables. Cash at bank and short-term deposits are placed with high-quality financial institutions and South African investments are limited to a maximum of 5% in any one publicly traded security. Trade receivables comprise a large, widespread customer base which is subject to continual and ongoing credit evaluations to determine the level of impairment. The granting of credit is controlled by sophisticated and well-developed application and behavioural scoring models which are continually refined and updated. There are no significant concentrations of credit risk which have not been provided for.
  26.2 Interest rate risk management
   

Interest rate risk on interest-bearing instruments are managed by an independent asset management company in terms of a regularly updated mandate. As part of the process of managing the fixed and floating rate interest-bearing debt and cash and cash equivalents, the interest rate characteristics of new and the refinancing of existing loans are positioned according to the expected movements in interest rates.

In order to hedge exposures in the interest rate profile of existing and additional peak borrowings of the group, the group may make use of interest derivatives and other hedging instruments in terms of limits specified in the group’s treasury policy approved by the Audit and Risk Committee. For the year ended 31 March 2007, the group entered into a zero-premium interest rate collar with the counterparty being a high-quality financial institution. The value of the borrowings hedged and the fair value of these contracts as at 31 March 2007 are as follows:
   
           
    Notional       Fair    
    amount   Maturity   value    
    Rm   date   Rm    
                 
Zero premium interest rate collars with the cap and floor rates referenced to the 3-month JIBAR rate:                
   – commencing on 30 March 2007   150   31 Mar 2008   (0.1)    
   – commencing on 31 March 2008   100   30 Mar 2009   (0.1)    
            (0.2)    
    The interest rate profile of the group’s financial instruments are as follows:
              Average          
            closing          
            effective          
        Term of   interest       Carrying  
        investment   rate   Floating   value  
            %   or fixed   Rm  
    2007                  
    Assets                  
    Gross instalment sale and loan receivables   Up to 2 years   29.70%   Fixed   3 317.0  
    Liabilities                  
    Finance leases   3 years   9.00%   Floating   1.0  
    Overdrafts and short-term borrowings   Varies (refer note 14)   9.25%   Floating   429.3  
                       
                       
    2006                  
    Assets                  
    Gross instalment sale receivables   Up to 2 years   28.30%   Fixed   2 921.4  
    Liabilities                  
    Finance leases   3 years   7.00%   Floating   1.8  
    Overdrafts and short-term borrowings   Varies (refer note 14)   7.20%   Floating   132.8  
     26.3 Foreign exchange risk management
     

During the year, 24.6% (2006: 13.7%) of the purchases were in foreign denominated currencies. Forward exchange contracts are entered into to manage foreign exchange exposure. Below is a summary of the amounts payable under forward contracts.
                Foreign   Rand   Fair value  
        Term   Rate   currency   equivalent   gain/loss  
                FCm   Rm   Rm  
    2007   Less than   Rates vary from              
    US dollar   4 months   R7.13 to R7.45   7.9   57.4   0.4  
                           
                           
    2006   Less than   Rates vary from              
    US dollar   9 months   R6.08 to R6.48   10.3   64.1   2.0  
   

Apart from the Linked Policy Investment, there was no uncovered exposure to foreign denominated currencies at year-end. The underlying value of the linked policy is determined in US dollar and this foreign currency exposure is uncovered. Refer to note 26.6.

Net investment in foreign entities

The currency exposure is limited to the net investment in Botswana of R95.1 million (2006: R80.4 million), which includes a long-term loan account. The currency exposure is managed by keeping the net investment at a minimum practical level by remitting cash to South Africa on a regular basis.
        group  
        2007   2006  
        Rm   Rm  
  26.4 Liquidity risk          
    Total banking facilities    900.0   900.0  
    Less: drawn portion of facility   (429.3)   (132.8)  
    Plus: cash on hand   35.7   28.1  
    Available cash resources and facilities   506.4   795.3  
   

Prudent liquidity management implies maintaining sufficient cash and the availability of funding through an adequate amount of committed credit facilities. Group treasury aims to maintain flexibility in funding by keeping committed credit lines available.

Subsequent to year-end, additional facilities of R300 million have been negotiated with the banks.
  26.5 Insurance risk
   

The risks covered under insurance contracts entered into with customers by the group’s insurer, Monarch Insurance Company (“Monarch”), are as follows:

  • settlement of customer’s outstanding balance in the event of death or disability,
  • replacement of customer’s goods in the event of damage or theft of goods; and
  • settlement of customer’s account, should the customer become unemployed after three months subsequent to the sale.

The risk under any one insurance contract is the possibility that the insured events as detailed above occur and the uncertainty of the amount of the resulting claim. By the very nature of an insurance contract, this risk is random and therefore unpredictable.

The principle risk that the group faces is that the actual claims exceed the amount of the insurance provisions. This could occur because the frequency or severity of claims are greater than estimated. Insurance events are random and the actual number of claims will vary from year to year from the estimated claims provision established using historical claims patterns.

The frequency and severity of claims can be affected due to unforeseen factors such as patterns of crime, AIDS and employment trends. The group manages these risks through its underwriting strategy, adequate reinsurance arrangements and proactive claims handling. The geographical spread of the group ensures that the underwritten risks are well diversified. No significant concentrations of insurance risks exist.

A proportional reinsurance arrangement has been entered into by Monarch to facilitate the transfer of 40% of the risk under these policies to an external reinsurer. Catastrophe cover has been placed with third-party insurers and reinsurers in order to reduce the potential impact of a single event on the earnings and capital of Monarch. Due to the nature of the insurance risk, claims can be measured reliably. Past experience has indicated that claims provision estimates approximate the actual claims costs. The insurance result is dependent on the trend in the group’s merchandising sales. There is no significant insurance business other than with the group’s customers.
          group  
          2007   2006  
             Rm   Rm  
           Movement in provisions:          
    (i) Unearned premium reserve          
      Opening balance   184.8   154.4  
      Movement during year   29.5   30.4  
      Closing balance   214.3   184.8  
      Comprising:          
      Unearned premiums   346.7   300.9  
      Less: reinsurers’ share of provision   (132.4)   (116.1)  
      Net balance   214.3   184.8  
    (ii) Insurance provisions          
      Insurance provisions include outstanding claims and IBNR reserve.          
      Opening balance   23.2   19.6  
      Movement during year   2.8   3.6  
      Closing balance   26.0   23.2  
      Comprising:          
      Gross insurance provisions   39.3   34.8  
      Less: reinsurers’ share of provision   (13.3)   (11.6)  
      Net balance   26.0   23.2  
        Average                  
        closing                  
        rate of                  
        interest   0–12   2–5   >5      
        %   months   years   years   Total  
     26.6 Maturity profile of financial instruments                      
    The maturity profiles of financial instruments at 31 March 2007 are as follows:                      
    Assets                      
    Available-for-sale insurance investments       83.9   256.4   204.7   545.0  
    Held-to-maturity insurance investments   8.00%   115.4   –   –   115.4  
    Trade and other receivables**   29.70%   2 187.7   –   –   2 187.7  
    Cash on hand and deposits   8.40%   35.7   –   –   35.7  
    Liabilities                      
    Interest-bearing borrowings   9.00%   (1.0)   –   –   (1.0)  
    Bank overdrafts and short-term borrowings   9.25%   (429.3)   –   –   (429.3)  
    Trade and other payables       (287.7)   –   –   (287.7)  
            1 704.7   256.4   204.7   2 165.8  
   
**
  		 Amounts due from instalment sale receivables after one year are reflected as current, as they form part of the normal operating cycle. The credit terms of instalment sale receivables range from 6 – 24 months.
        

On 31 March 2007 the carrying amounts of other receivables, bank balances and cash on hand, trade and other payables and overdraft and short-term borrowings approximate their fair values due to the short-term maturity of the assets and liabilities.

Included in “Cash on hand and deposits” are bank balances held in foreign currency (Pula) amounting to R14.4 million (2006: R18.2 million).

Included in “Available-for-sale investments” is a linked investment policy with Sanlam Life Insurance Limited made by Monarch Insurance Company Limited, the group’s insurance subsidiary. The underlying value of the policy is determined in US dollars with reference to the original investment and a growth in a basket of international indices. The underlying indices are 65% foreign equity and 35% government bonds and the policy carries both a R68 million and US dollars 10.4 million capital guarantee effective if the investment is held to 6 November 2007.
                                     group  
      2007   2006  
      Rm   Rm  
27. Remuneration of executives          
  Salary   7.7   6.2  
  Bonus   5.7   4.3  
  Termination benefits   1.6   –  
  Retirement and medical contributions   1.5   1.3  
  Other benefits   0.6   0.4  
      17.1   12.2  
  Key executives comprise the directors of Lewis Stores (Pty) Ltd, the main operating subsidiary.          
28. Contingencies          
  Bank and other guarantees given by the group to third parties   7.6   7.5  
  The directors are of the opinion that no loss will be incurred on these guarantees.          
29. Capital commitments          
  There were no material capital commitments contracted for or authorised and contracted at the end of the period under review (2006: Rnil).          
 
30. Segmental reporting      
      2007   2006  
      Merchandise Insurance Group   Merchandise Insurance Group  
      Rm Rm Rm   Rm Rm Rm  
  30.1 By business unit                
    Revenue 2 858.8 464.7 3 323.5   2 474.0 400.5 2 874.5  
    Operating profit(1) 676.5 183.4 859.9   564.9 163.7 728.6  
    Operating assets(2) 2 622.7 674.3 3 297.0   2 288.3 602.0 2 890.3  
    Operating liabilities 180.7 107.0 287.7   191.4 92.1 283.5  
    Capital expenditure 60.6 – 60.6   39.8 – 39.8  
    Depreciation 38.9 – 38.9   35.0 – 35.0  
      2007   2006  
  30.2 Geographical South Africa Other Group   South Africa Other Group  
      Rm Rm Rm   Rm Rm Rm  
    Revenue 2 982.9 340.6 3 323.5   2 575.0 299.5 2 874.5  
    Operating assets(2) 3 027.6 269.4 3 297.0   2 656.3 234.0 2 890.3  
    Capital expenditure 57.5 3.1 60.6   36.9 2.9 39.8  
   
(1) Operating profit for 2006 excludes share-based payments of R58.4 million relating to the share awards and options granted at date of listing.
(2) Operating assets does not include deferred tax asset of R102.9 million (2006: R89.7 million).
  30.3 Inter-segment transfers
    Segment revenues, expenses and results include transfers between business segments and between geographical segments. Such transfers are accounted for at arm’s length prices.