Margin cap to restrict pace of earnings growth
Competitive pricing by peers led to shrinking gross margin
EBIDTA and PAT growth lags revenue growth on shrinking gross margin:
Avenue Supermarts (DMart) revenue increased 39% YoY to INR48.7b (estimated INR44.6b) in 2QFY19. EBITDA/PAT; however, grew 23%/18% YoY to INR3.9b/INR2.3b (estimated INR4.4b/INR2.6b) lagging much below revenue growth. This is primarily due to 180bp decline in gross margin to 14.3%. In the recent analyst meet, management had highlighted that the high EBITDA margin may not be sustainable as the company plans to prioritize price competitiveness v/s margin improvements.
Added three new stores in 2QFY19; looking to add 25-30 stores annually:
In the recent analyst meet, the company reiterated its strategy to accelerate store addition; it also plans to explore the leasing model. Although, the company does not have a set target, it plans to add 25-30 stores annually. In 2QFY19, DMart added three new stores (five stores in 1HFY19), taking its total store count to 160. The company had added 24 stores in FY18, of which 14 were in 4Q. Total store count rose from 131 in FY17 to 155 in FY18, and at a 16% CAGR over FY13- 18. In order to reach 25 stores, DMart needs to add 20 stores in 2HFY19 against the five stores in 1HFY19.
Valuations and view:
DMart has consistently outperformed its peers, with strong 14% same store sales growth (SSSG) and 9% EBITDA margin (as at FY18). We expect the strong momentum to continue, with a robust revenue/EBITDA CAGR (FY18-21) of 27%/29%, driven by 19% SSSG and healthy store additions (~25) annually. However, risk of competitive pricing by peers has led to gross margin shrinking, and has contained EBITDA margin. We have yet broadly maintained EBITDA/PAT estimates for FY19/20E as revision in revenue growth is offset by lower EBITDA margin. We maintain our 50x P/E on FY20E (on the back of strong competitive moat) to arrive at a TP of INR1,124 (prior: INR1,117). At CMP, the stock is expensively valued at 63x/48x FY20/21E P/E. At such rich valuations, we believe there is limited room for re-rating. Maintain Sell.
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