Increasing competition may restrict Avenue Supermarts' stock performance

Cost efficiency provides DMart an edge, but competitive intensity is rising and stock valuations are expensive

Reliance Industries’ announcement relating to its retail business, Reliance Retail, which includes its online grocery business JioMart, has impacted investor sentiment towards Avenue Supermarts.

The stock of Avenue Supermarts, which operates the popular chain of DMart hypermarkets, has shed 6 per cent since last Wednesday (July 15), adding to the 7.6 per cent decline it had seen post weak results (between July 11-14).

In comparison, the Sensex has scaled to an over four-month high and is up 2.3 per cent since 11 July.

At the annual general meeting last Wednesday, Reliance Industries' (RIL's) chairman and managing director, Mukesh Ambani announced that RIL has received interest from strategic and financial investors for Reliance Retail and it would get some on board in the next few quarters. Given RIL's track-record and its achievement with Jio Platforms, its commitment and plans for the retail business, which along with JioMart's tie-up with WhatsApp and local kirana stores means potential increase in competition for players like DMart.

While the impact of increased competition would be felt across the retail industry, it becomes more crucial for Avenue Supermarts' investors, given the stock's extremely rich valuations of over 80 times FY21 estimated earnings.

For now, many analysts are not majorly worried and believe that the impact may not be significant for DMart given its strong moat.

Varun Singh, analyst at IDBI Capital, said, “Avenue Supermarts has strong cost efficiency in place, which gives it strong power to offer value (products below maximum retail price). This would continue to bode well for DMart.” Owned stores, no last-mile cost, strong warehousing efficiency and direct procurement are some key levers in favour of Avenue Supermarts. Thus, Singh believes it will be a tough task even for players like Reliance Retail to beat Avenue Supermarts.

Vishal Gutka, analyst at PhillipCapital shares a similar view. “The large, financially strong listed grocery retailer has a unique model, which would continue to give it an edge over other organised players,” he said. Avenue Supermarts is estimated to post revenue of Rs 37,000 crore and operating profit of over Rs 3,000 crore in FY22. However, there would be some correction in Avenue Supermarts’ valuation in the near term, mainly due to the sentimental impact and given that despite slower growth its stock valuation is still pricey, Gutka added.

What is driving the strong footfalls for Avenue Supermarts is its product mix, which is tilted towards grocery (over 50 per cent of revenue). Reliance Retail is currently more focused on consumer electronics, and has big plans for its grocery business.

The combined strength of Reliance Retail and JioMart – strong financials, large client base, sourcing efficiency and technology cannot be ignored. Reliance Retail is India’s largest and most profitable retailer with revenue of Rs 1.6 trillion and operating profit of Rs 9,654 crore in FY20. And, Nomura estimates its operating profit to almost double to Rs 18,400 crore in three years.

In fact, these attributes would come handy in executing RIL's larger retail strategy, which some analysts believe is a potential threat to all peers.

Sunil Jain, head of research at Nirmal Bang, said, "It is key to see how JioMart executes it's strategy, mainly in terms of profitability." "However, we believe JioMart, too, has a strong moat in terms of Jio connectivity, strong financial support, etc, which would give tough competition to players like Avenue Supermarts," he added.

To give a perspective, within a short span of launch, JioMart is witnessing cumulatively 2,50,000 daily orders across 200 cities. Reliance Retail also sources over 80 per cent of fresh fruits and vegetables directly from farmers.

To summarise, even as DMart is a well-established retailer with strong financials and a robust business model, competitive intensity is likely to increase. And, this could keep a check of its stock performance and valuations.