Holmes Place published its second-quarter report. One ratio in it is extreme, and the explanation is accounting rather than financial.
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The Quarter
| NIS millions | The quarter | Share of revenue |
|---|---|---|
| Revenue | 156.3 | |
| Gross profit | 44.7 | 28.6% |
| Operating profit | 27.8 | 17.8% |
| Pre-tax profit | 12.2 | 7.8% |
| Net profit | 9.3 | 6.0% |
| Attributable to shareholders | 8.9 | |
| Non-controlling interests | 0.4 | |
| Basic earnings per share | NIS 0.09 | |
| Balance sheet total | 1,526.1 | |
| Shareholders' equity | 173.3 |
The Extreme Ratio: 8.8 to One
NIS 1,526.1 million of assets against equity of NIS 173.3 million.
This is among the highest leverage ratios of the 40 Israeli filers today. Only three stand above it: Prime Energy at 9.4, Sola at 12.4 - whose equity is only NIS 6.7 million - and Ayalon at 13.5, which is an insurer. And at an insurer leverage is not a measure of risk but the structure of the sector: insurance liabilities are not borrowed debt.
And here it is important to separate financial leverage from accounting leverage, because they look identical on the balance sheet.
A chain of fitness clubs does not borrow hundreds of millions from a bank in order to operate. What it has is long leases on large sites - and that is an obligation of an entirely different kind.
The leases standard requires them to be shown on the balance sheet: every rental contract is recorded as a right-of-use asset on one side, and a lease liability on the other. Both items swell together.
The meaning: a fitness club with large sites on long leases will look highly leveraged - even if it has never borrowed a shekel to operate.
And that is why we saw the same pattern this week at Electra Consumer (7.1), at Victory (5.1) and at Novolog (7.6) - all businesses with heavy physical footprints on leases.
So comparing leverage across sectors is meaningless without knowing how much of the debt is leases.
And What That Does to Profit
From NIS 27.8 million of operating profit, NIS 12.2 million was left before tax. NIS 15.7 million was taken out - 56.3%.
And here too, the bulk of it is interest on lease liabilities.
And this is the point that turns it from an accounting matter into an economic one.
What used to be a "rent expense" - a single item above the operating line - is today split in two: depreciation of the right-of-use asset above the operating line, and interest below it.
The result: the operating margin looks better than it would have before the standard, and the pre-tax line looks worse.
So Holmes Place's 17.8% operating margin is not comparable to the operating margin of a business that does not lease space. Only the pre-tax line, 7.8%, genuinely compares the two.
And what is worth holding: in a business like this, rent is the central operating cost, and it is signed years in advance. That is, it does not move when memberships move.
Margin Survival: 62%
| Gross margin | 28.6% |
| Operating margin | 17.8% |
| Survival | about 62% |
62% is a relatively high figure, and it too follows from the same standard: a substantial part of the cost of running the clubs has already been counted above the gross line as depreciation, leaving less to be deducted afterwards.
Tax and Allocation
NIS 12.2 million before tax and NIS 9.3 million after - tax of NIS 2.9 million, an effective rate of 23.5%.
Almost identical to Israel's corporate rate.
And of net profit, NIS 0.4 million was allocated to non-controlling interests - about 4.1%.
הזווית שלי
דעה אישית של אילן אברמוב - לא ייעוץ ולא המלצה
This report is a good example of a figure being accurate and misleading at the same time.
"A leverage ratio of 8.8 to one" sounds like a company close to the edge. In practice, most of that obligation is lease contracts on clubs - an entirely real obligation, but of a completely different kind from bank debt. It cannot be called for immediate repayment, and it is spread over the contract term.
And the practical rule I hold: when I see high leverage in a space-heavy business - retail, fitness, logistics - the first question is how much of it is leases. Without that separation, the figure says nothing.
And what does trouble me in the report is that 56.3% of operating profit disappears beneath it. Even if the source is leases, it is still a payment. And in a business with a 6.0% net margin, the margin for error is not large.
So the number I will follow is the count of active members relative to the number of clubs. Rent is fixed; income is not. The ratio between them is the whole business.
(It is important to stress: this is my personal opinion only, and nothing herein constitutes a recommendation to take any action.)
