D-Mart hits new high on Goldman Sachs report

Becomes the 40th most-valued firm with Rs 69,697-cr market cap

The shares of Avenue Supermarts (which runs the D-Mart retail chain) touched an all-time high of Rs 1,217 on the BSE before closing at Rs 1,116.8 on Tuesday, 8.5 per cent higher than Monday’s close. This is a 273 per cent jump from the initial public offer (IPO) price of Rs 299 in March, taking the company into the club of the 40 most-valued Indian companies.

At the closing price, it valued at Rs 69,697 crore and promoter Radhakishan Damani has become the eighth richest Indian, with a net worth of $9.4 billion (Rs 61,100 crore), up a notch after Tuesday’s gain.

The stock gained as Goldman Sachs said in a report that the retailer was well placed to benefit from the ongoing tax reform, with grocery market share shifting to the organised sector. “While Avenue Supermarts maintains low prices (with thin gross margins and light working capital), its CROCI (cash return in capital invested) remains better than global retail peers,” says Aditya Soman, analyst with Goldman Sachs.

The report estimates the share of the organised portion of grocery retailing rising to 7.9 per cent in 2019-20, from 3.8 per cent in 2016-17. It also estimates 33 per cent compound annual growth for the company’s sales over these years.

“Avenue Supermarts is set to grow its Ebit (earnings before interest and tax) by 13 times in 10 years, aided by this high growth, low margins and high returns strategy,” said the report. 

Goldman Sachs also expects the operating profit margin to expand to 8.9 per cent over three years. A large part of this operating profit margin rise by FY20, from the current 8.2 per cent, is expected from savings on employee cost. This is because sales are expected to grow faster than these. And, operating leverage or economies of scale in sourcing, distribution and retail presence is expected to help.

The growth plan is also backed by recent expansion online through omni-channel offerings. These include neighbourhood pick-up points (PUPs) and home delivery for a fee, while offering low consumer prices. The company aims at 415 PUPs by 2019-20, up from 41 at present.

Analysts, though, are unsure about its ability to find land and construct own retail units at attractive prices, as it did in the past. This means it might have to take on debt to meet the growth objectives. There is also the execution risk as it tries to gain a national footprint. 

Finally, the emergence of online competition. Price undercutting in the online marketplace could rise, resulting in margin erosion, say analysts. With fast moving consumer goods companies tying up with online retailers to increase distribution reach, Avenue will face competition from multiple players.

The biggest concern for analysts is on valuation. They point to uncertainty, disruption and changes in consumer behaviour. Despite the sharp jump on Tuesday, given the 12-month target price of Rs 1,586 by Goldman Sachs, there is still a 42 per cent upside from the current levels. Valuation for the stock at over 65 times the one-year forward earnings estimates are excessive, even for a company which has a superlative (albeit short) track record, says an analyst. 

Avenue Supermarts is a well-run consumer franchisee and it deserves a premium to other listed entities; a 45 times one-year forward estimate is fair but 65 times is taking it too far, says another analyst.