Equity Analysis /
Sri Lanka

Cargills (Ceylon): 1Q FY23 - Steady performance despite ongoing headwinds

  • Same store sales to drive Retail revenues; short term margin pressure in 2Q FY23E

  • FMCG portfolio well positioned; recovery in margins during 2H FY23E

  • We use a 3-stage DCF model and arrive at a fair value of LKR 255.00/share

Asia Securities
13 September 2022
Published byAsia Securities

We use a 3-stage DCF valuation and arrive at a fair value of LKR 255.00/share (+20.3% upside; +24.5% TSR). CARG reported an EPS of LKR 6.04 for 1Q FY23, down 13.1% QoQ (+206.1% YoY). Group revenues of LKR 48.0bn were up 17.5% QoQ (+63.0% YoY); looking ahead, we expect CARG to continue benefitting from key trends seen in 1Q. Accordingly, we expect 1) footfall conversion from the general trade channel and 2) rising prices of essentials to drive Retail revenues. In FMCG, limited availability and unaffordability of substitutes will increase demand for key product lines. Group EBIT margins of 6.3% were down 1.4pp QoQ (+0.8pp YoY); we factor in further margin pressure in 2Q FY23E followed by a recovery in 2H.

Same store sales to drive Retail revenues; short term margin pressure in 2Q FY23E

Retail revenues of LKR 36.7bn were up 19.6% QoQ (+61.2% YoY), with both footfall and basket values witnessing growth. While overall mobility levels declined amid fuel shortages in 1Q, our channel checks indicate that supermarkets witnessed strong growth in footfall. This was due to 1) footfall conversion from the general trade channel due to better product availability and 2) high supermarket penetration in residential areas. Looking ahead, we expect these trends to continue with 1) footfall driving same store sales growth while 2) basket values remain elevated due to inflation. Further, we expect a limited contribution from new store openings to overall revenue growth in FY23E. CARG opened 7 outlets in 1Q; however, noted that further expansion will be limited to outlets currently under construction due to escalating costs. EBIT margins were down 0.3pp QoQ (+1.7pp YoY); we factor in additional margin pressure in 2Q FY23E followed by a recovery in 2H.

FMCG portfolio well positioned; recovery in margins during 2H FY23E

FMCG revenues of LKR 9.3bn were up 12.4% QoQ (+60.9% YoY). Despite an overall slowdown in discretionary spending, CARG is poised to increase volumes across its main product categories. This is due to 1) import restrictions benefitting local dairy manufacturers and 2) exposure to processed foods which are a cheaper alternative to meat. Supported by price increases, we expect higher revenue contribution from dairy and processed foods (estimated at 50.0% and 20.0% currently) to offset a slowdown in other categories during FY23E. However, heading into 2H FY23E, we expect increased availability of substitute products as economic conditions improve. EBIT margins were down 4.2pp QoQ (-1.8pp YoY) to 12.3%; we factor in further margin pressure during 2Q FY23E mainly until inventory purchased at a higher cost is fully utilised. Once these costs are fully absorbed, we factor in a margin recovery during 2H.

We use a 3-stage DCF model and arrive at a fair value of LKR 255.00/share

We use a 3-stage DCF valuation to reflect the uncertain macro environment and arrive at a fair value of LKR 255.00/share (+20.3% upside; +24.5% TSR). This target price corresponds to an implied P/E multiple of 10.3x FY23E EPS, at a sizable discount to CARG’s 5-year P/E multiple average of 18.7x. However, we note that trading activity in the share remains low due to a lack of liquidity. Key risks: 1) prolonged recovery in spending, 2) delayed pickup in the tourism and agri sectors and 3) further steep currency depreciation.