Dairy Farm - DBS Research 2020-03-06: Needs Time For A Successful Transformation

DAIRY FARM INT'L HOLDINGS LTD (SGX:D01)

Dairy Farm - Needs Time For A Successful Transformation

We remain neutral on Dairy Farm International (SGX:D01) as we believe that it needs time to execute its multi-year transformation plan. The COVID-19 outbreak in Asia has also dampened its growth outlook.
Following the disappointing FY19 results, we have trimmed FY20-21F earnings by 10-12% to reflect a slower turnaround than before. We expect the reorganisation to continue in FY20F with muted earnings growth before efficiencies kick in from FY21F.
Meanwhile, any upside to share price and earnings growth would be capped by the COVID-19 situation and subdued consumer sentiment.

Dairy Farm's FY19 earnings below. Core FY19 earnings of US$326m (-8.8% y-o-y) was below our estimates as both revenue and margins disappointed. Revenue came in at US$11,192, (-4.7% y-o-y), with operating margins declining 0.4ppt to 3.9%.
Pre-tax margins were also below expectations as Yonghui’s contribution to associates/JV income was below our estimate.
A final DPS of 14.5 UScts was declared, bringing full year DPS to 21 UScts, in line with expectations.

The decline in FY19 sales was led by a 10.7% drop in Supermarket/Hypermarket sales to US$2,513m. While sales from Hong Kong and Macau rose, the decline was due to Rustan’s divestment and store optimisation in Southeast Asia.
Convenience stores grew 3.9% y-o-y to US$2,185m, driven by new store growth and strong same store sales in China. Health and Beauty sales rose 0.5% y-o-y to US$3,051m from stronger same store sales in Southeast Asia, China and Macau offset by Hong Kong contribution due to the social unrest.
Sales at IKEA stores grew 6.2% y-o-y to US$766m with strong sales growth from new stores, offset by slower same store sales in Hong Kong due to the social unrest in 2H19.

Operating margins declined to 3.9% (-0.4ppt), dragged by lower IKEA (-3.9ppt, 5.6%) and Health and Beauty stores (-1.2ppt, 9.7%).
Food margins improved to 2.0% (+0.6ppt) with operating margins improving for supermarket/hypermarkets (+0.8ppt, 1.2%) compensated by lower convenience stores margin (-0.4ppt, 3.8%).
Overall, the margin decline was due to continued investments into the various business segments.

2H19 sales and earnings performed weaker than both 1H19 and 2H18, affected by the social unrest in Hong Kong. There were some positives as overall gross margin improved to 32.4% in 2H19 while operating margins for supermarket/hypermarkets improved from the levels in 2H18 and 1H19. However, Health and Beauty, and IKEA stores recorded lower operating margins y-o-y in 2H19.

With a slow 2H19, we believe the outlook for FY20F would be muted with the spread of the COVID-19 in 1Q19. We expect consumption to be dampened at least for 1Q19, thereby limiting FY20F earnings growth. Furthermore, travel restrictions regionally would cap growth for Health and Beauty business as well.
We reduced our FY20F earnings by 12% with earnings growth now at 3.4%, having lowered our sales growth forecast from 5% to 3% and operating margins from 4% to 3.9%. We anticipate efficiencies like centralised procurement to bear fruit in FY21F, thus imputing better operating margins with a faster earnings growth rate of 12% y-o-y.

Our SOTP-based Target Price is lowered to US$5.20 following the earnings cut, translating to 21.8x PE or -1SD of its mean. Our neutral view on the stock is based on muted earnings growth outlook dampened by the COVID-19 outbreak.
Together with continued investments, we expect slower sales growth and lower margins in FY20F. We believe some of the operational efficiencies will start to bear fruit by FY21F.
See Dairy Farm Share Price; Dairy Farm Target Price; Dairy Farm Analyst Reports; Dairy Farm Dividend History; Dairy Farm Announcements; Dairy Farm Latest News.
Overall, Dairy Farm needs more time to execute its transformation plan. We therefore remain neutral until there are firmer signs of earnings turning around. Maintain HOLD.

Alfie YEO DBS Group Research | Andy SIM CFA DBS Research | https://www.dbsvickers.com/ 2020-03-06

SGX Stock Analyst Report HOLD MAINTAIN HOLD 5.20 DOWN 7.990