Strategic Risk Mitigation: Cost-Effective Control Measures for Retailers in a Post-Unrest Environment”

QUESTION

Makro and Game owner still reeling from July unrest as it continues to count losses 

Sales in Massmart stores declined by 1.3% in the 48 weeks ended on 28 November. The retail giant blames the decline mainly on store closures following the July unrest. Massmart lost two large Makro stores, while another 41 stores suffered significant damage because of the unrest. The damage caused by the July unrest have caused serious setbacks for Makro and Game stores owner, but thankfully Black Friday sales lived up to last years’ records despite some stores remaining closed because of the extensive structural damages they suffered. Massmart – which also owns Builders Warehouse and Cambridge Foods – extended Black Friday into a four-week-long Black November event as it did in 2020. It said during that period, sales at comparable stores, which include stores impacted by the looting, amounted to R9.2 billion. This was broadly in line with last year’s Black November event. But the retail giant noted that stores damaged by the looting – and which remained closed or operated at limited levels impacted its 2021 sales. Massmart highlighted two Makro stores in Pietermaritzburg and Springfield that remained closed, as well as damaged Game stores. The unrest resulted in Massmart losing two large Makro stores, while another 41 stores suffered significant damage. Massmart previously reported that it would cost around R2.5 billion to replace lost stock and repair properties damaged during the July unrest. The company estimates that it will suffer an accounting loss of about R650 million even after receiving an insurance payout from Sasria. The group has so far received an initial insurance payment of R435 million from Sasria, excluding VAT. The state-owned insurer also approved another R565 million, excluding VAT, which will be the final payout that Massmart will receive some time in 2022. More unrest-related losses Massmart recorded R75.3 billion in sales for the 48-week ended on 28 November 2021, a 1.3% decline from comparable sales in the same period in 2020. But Makro and Builders still did well will their total sales increasing by 8% and 8.1% respectively compared to the same period in 2020. On the other hand, Game continues to drag the group, alongside the Wholesale Cash & Carry business, which is suffering because of lower sales to the hospitality, restaurant, and catering sectors. Game’s total sales of R13.6 billion were 8.4% lower than the same period in 2020. Massmart has largely attributed the overall decline in group sales to the unrest as some stores remain closed until December. But it was also hit by the liquor trading restrictions. Over and above disruptions caused by store closures, Massmart said it also suffered supply chain disruption since looters ransacked two of its distribution centres in KwaZuluNatal. Because of this, the retail giant said it had sub-optimal stock levels in key categories, specifically home-electronics and appliances. Massmart estimates that it lost around R450 million in trading profits because of store damages between July and December 2021. So far, it has received an initial business interruption payment of R100 million excluding VAT from its private insurers not related to Sasria. The group added that because it expects most of its insurance claims to be settled in 2022, it has to incur the relevant losses on its income statement in 2021. However, its US parent company, Walmart, has agreed to give it a R4 billion loan to help optimise Massmart’s balance sheet in the short to medium term. (Fin 24, 2021) Source: https://www.news24.com/fin24/companies/retail/makro-and-game-owner-still-reeling-from-july-unrest-as-it-continuesto-count-losses-20211221

QUESTION 3 (25 Marks)

Companies like Makro and Game are thinking about implementing further controls to mitigate against risk like the unrest they experienced. With the use of an appropriate diagram and examples, advise these companies on how they can go about determining if controls are cost effective, so they do not go overboard with implementing controls that are not cost effective

ANSWER

Strategic Risk Mitigation: Cost-Effective Control Measures for Retailers in a Post-Unrest Environment”

Implementing effective controls to mitigate against risks like the unrest experienced by companies such as Makro and Game is crucial for their sustainability and profitability. However, it’s equally important for these companies to ensure that these controls are cost-effective, so they don’t overspend on unnecessary measures. To determine the cost-effectiveness of controls, they can follow a structured approach that involves risk assessment, cost-benefit analysis, and continuous monitoring.

Risk Assessment: Before implementing any controls, companies should conduct a thorough risk assessment. This involves identifying and evaluating the various risks they face. In the case of Makro and Game, the primary risk is civil unrest, which can lead to store closures, property damage, and supply chain disruptions. They should also consider other risks like natural disasters, economic fluctuations, and pandemic-related disruptions, as these factors can impact their business operations as well.

Prioritization of Risks: Not all risks are of equal importance or likelihood. Companies should prioritize risks based on their potential impact and probability of occurrence. For example, civil unrest, as experienced in July, may be a high-impact, high-probability risk for these retailers. On the other hand, a global pandemic may have a lower probability but a potentially devastating impact. Prioritization helps allocate resources effectively.

Identifying Control Measures: Once risks are prioritized, the next step is to identify control measures. These can include physical security measures like improved store security, surveillance systems, and alarm systems. Operational measures could involve diversifying suppliers to reduce supply chain risks, improving inventory management, or creating crisis response plans. In the case of Makro and Game, they might consider geographic diversification to reduce regional risk concentration.

Cost-Benefit Analysis: After identifying potential control measures, companies should conduct a cost-benefit analysis. This analysis compares the cost of implementing controls against the expected benefits in terms of risk reduction. For instance, investing in a sophisticated security system may reduce the risk of looting and property damage during civil unrest. The cost of the system should be compared to potential savings from reduced losses and insurance premiums.

Quantify Costs and Benefits: To make this analysis more concrete, companies should quantify both costs and benefits as accurately as possible. For example, they can estimate the cost of security upgrades, ongoing maintenance, and training. On the benefits side, they can estimate potential loss reductions, insurance premium savings, and the value of uninterrupted operations.

Return on Investment (ROI): Calculate the ROI for each control measure. ROI is a crucial metric for assessing cost-effectiveness. It helps decision-makers understand how much they can expect to gain (or lose) for every dollar invested in a control measure. A positive ROI indicates that the measure is likely cost-effective.

Continuous Monitoring and Adjustment: Implementing controls is not a one-time process. Companies should continuously monitor the effectiveness of their controls and adjust them as needed. For example, if a security system is not preventing losses as expected, it may need to be upgraded or combined with other measures.

Example Scenario: Let’s say Makro invests in an advanced security system costing $100,000 to protect one of its stores in a high-risk area. They estimate that this system could reduce potential losses by $200,000 annually and lead to a 20% reduction in insurance premiums, saving an additional $30,000 per year. The ROI for this security system would be:

ROI = (Net Benefit / Cost of Control) x 100 ROI = [($200,000 + $30,000) – $100,000] / $100,000 x 100 ROI = 130%

In this scenario, the security system has a positive ROI of 130%, indicating that it is likely a cost-effective control measure.

In conclusion, companies like Makro and Game can determine the cost-effectiveness of controls by conducting a comprehensive risk assessment, prioritizing risks, identifying control measures, and conducting a thorough cost-benefit analysis. This structured approach allows them to make informed decisions about which controls to implement to mitigate risks without overspending on unnecessary measures. Continuous monitoring and adjustment ensure that controls remain effective over time.