Dairy Farm Int'l - CIMB Research 2017-03-03: 2016 was about margins, 2017 will be about driving sales

DAIRY FARM INT'L HOLDINGS LTD D01.SI

Dairy Farm Int'l - 4Q16 analyst briefing key takeaway: 2016 was about margins, 2017 will be about driving sales

FY16’s earnings beat was driven by a much improved 2H, as margin improvement initiatives flowed through to the group. 2H16 OPM: 4.6%; 1H16: 3.5%; 2H15: 4.1%.
By geography, SEA is now doing much better (FY16 OP +43% yoy) while Greater China is flat.
Management’s focus heading into 2017 is now to maintain its margins and grow sales. We think the company is heading in the right direction. Reiterate Add.

By segment, it was the food division (both super/hypermarket and convenience stores) that drove the group’s better performance. Super/hypermarket OPM recovered to 3.4% in 2H16 (FY15: 2.7%), while convenience stores recovered to 4.6% (FY15: 3.4%).
We think the specific initiatives undertaken by the company that improved margins were
1. to close underperforming stores (in Singapore and Indonesia),
2. to improve fresh penetration (fresh penetration was up 0.6% for super/hypermarkets, and ready-to-eat participation was up 0.8% for its convenience stores), and
3. a new fresh distribution centre (DC) in Singapore in 2016.
Going forward, the company will continue to push its fresh and private labels as a means to further improve margins. Its DC also allows opportunities for increased direct sourcing and scale benefits. Management said the group has yet to do any food processing in the DC, which could lead to further cost savings when it happens.
Historically, the group has also been relatively passive in leveraging on its regional scale and sourcing was mostly done locally. It has now set up a new buying office in Hong Kong to manage common sourcing and the improved international sourcing should offer further margin upside.

Over the last 2-3 years, it was the group’s Greater China markets that were driving performance as it struggled in ASEAN. However, the tide has now turned and ASEAN is now the group’s growth driver. We expect a similar tune in FY17F.
In constant currency terms, Greater China’s FY16 sales/OP yoy growth was +5%/flat while ASEAN was -2%/+43%. Management attributed the relatively weaker profitability in Greater China to rent/wage pressures in Hong Kong.

The strategy for the year is to drive sales while maintaining margins, where we think 2H16’s margins provide a good benchmark. While we think this is much harder to accomplish, the company is nevertheless on the right track.
Initiatives management talked about include its customer-centric retailing strategy, improved range innovation (e.g. ready-to-eat meals), targeted promotional activities and being in the right retail formats (e.g. smaller stores that are gaining wallet share in Indonesia and Malaysia).

We think the stock could rerate if sales recovers. Reiterate Add with an unchanged TP of US$9.18 (still based on 23.7x CY18 P/E, -0.5 s.d.).
Downside risks include margin deterioration and weak consumption

Jonathan SEOW CIMB Research | http://research.itradecimb.com/ 2017-03-03

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