Dmart stock rally may hit margin roadblock
Lower footfall, inferior product mix, and higher costs may dent profitability
Avenue Supermarts (Dmart) has been one of the biggest gainers among retail firms since the beginning of the lockdown, appreciating 33 per cent. The company’s ability to achieve higher-than-industry growth, margins, and return ratios, coupled with a strong balance sheet have aided stock gains. The firm had raised ~4,000 crore in the March quarter (Q4) from a qualified institutional placement, which boosted its cash position.
Despite the lockdown, its Q4 performance was better than expected. The firm reported a 23 per cent revenue growth year-on-year (YOY) in the quarter, pegged by a nine-day loss in March. Given the 11 per cent growth during the month, implied revenue growth for January and February is pegged at over 30 per cent, according to Motilal Oswal Securities.
Revenue growth was aided by the highest store additions (18) in a quarter, which would take its store count to 214 stores, most of which are owned. However, analysts believe that the firm
Margins are expected to dip further, given restrictions on the sale of higher-margin apparel and general merchandise, which account for 30% of the sales
could see revenue weakness in the first half of FY21.
Covid-sensitive clusters of Maharashtra, Gujarat, and Telangana account for 63 per cent of sales and 75 per cent of revenues, highlight analysts at Prabhudas Lilladher. While stores are opening gradually and revenues have recovered after falling 45 per cent YOY in April, the firm will have to contend with lower footfall and bill size.
The bigger impact will be on gross margins, which dipped 120 basis points YOY in Q4, to 13.2 per cent. Margins are expected to dip further, given restrictions on the sale of higher-margin apparel and general merchandise, which account for 30 per cent of the sales.
The management has indicated that margins in the near term would see sharp deterioration because of lower footfall (social distancing norms), higher costs of sanitation, higher levels of absenteeism, increased wage costs, and lower share of general merchandise. What could aggravate margin pressures is a rise in competitive intensity from e-commerce firms. Analysts have cut operating profit margins by 17 per cent for FY21.
Given the near-term pressure, it will be difficult to justify valuations with price to earnings for FY21 pegged at 120x and price-to-book at nearly 13x.