Stock Review: Shoppers Stop

 

With a turnaround in operations, Shoppers Stop's expansion plans are likely to fuel its future growth. Long-term investors can buy the stock on dips

 

SHOPPERS Stop, a leading fashion and lifestyle retailer from K Raheja Corp, has performed well in the quarter ended December 31, 2010. After a disappointing performance in FY08 and FY09, the company has reported a turnaround in its operations. With its expansion plans and the favourable macro factors, the company's prospects are bright. Its stock valuations, however, look a little too high. Long-term investors can keep a watch on the stock and consider buying on dips.

BUSINESS:

Shoppers Stop is one of the largest departmental store chains in India catering to mid to premium segment. It has 36 stores across 14 cities with a total retail space of about 2.3 million square feet (msf). Apart from the Shoppers Stop departmental stores, it has five specialty retail formats like Home Stop (home furnishing), Mothercare (baby care), Crosswords (books & music), Estee Lauder (cosmetics), and Mac (cosmetics). It is also present in the hypermarket space at eight locations across the country through its 51% subsidiary — Hypercity (food, grocery and general merchandise). 

   For Shoppers Stop, apparels account for 59% of its sale and nonapparels (watches, jewellery, electronics and personal accessories) contribute 41%. While for its subsidiary, Hypercity, has 55% sales from food, 8-10% from apparels and rest comes from general merchandising.It uses the same store sales growth model, which means new stores would be similar to the existing ones. The promoters, the CL Raheja Group, hold 68.2% stake in the company.

POSITIVES:

Shoppers Stop employs a flexible multi-brands approach that allows it for an easy replacement of less popular brands. This helps in catering to the everchanging taste of customers unlike some of the other retail players such as Provogue and Koutons, which predominantly promote in-house brands. 

   Shoppers Stop's customer loyalty programme 'first citizen membership' has shown traction in the past few quarters. The total membership under the programme has grown three times since FY06 to 1.9 billion as of December 31, 2010. We believe this has allowed it to grow it sales despite price rises in the past and would also help it in future price hikes. 

   After years of strategising and experimenting, we believe it has got the right business model — with top-end brands with aspirational values. It has plans to add 24 stores in the tier I and tier II cities in the next three years using same stores sales formula. With the steady economic growth, rising income levels and increasing consumer confidence, the company will be able to maintain its growth momentum. 

   The company's subsidiary Hypercity is currently in the investment mode. Though it is in the loss making currently, it gives the company presence in the growing hypermarket space. Its first store in Malad, Mumbai, has started making a small profit. It has plans to add 4-5 stores every year. The long-term outlook for this business looks good.

FINANCIALS & VALUATIONS:

In the past five years, the company has managed to more than treble its consolidated sales while net profit has increased a little less than two times. However, for a company with store sale business model, a growth in consolidated sales and profits would not give the actual picture of its performance. The growth may be due to the increase in number of stores through equity dilution. One can look at sales per square feet, which increased by 6% in the past one year. But growth in earning per share, margins and the return & turnover ratios would give a better idea of its financial performance. And Shoppers Stop has one of the best return ratios in the retail industry. 

   Its return on capital employed for FY10 was 16.4 and we expect it to improve to 17 for the current fiscal. EPS has remained more or less the same in the past five years, mainly due to a degrowth during the slowdown period. But after making losses in FY08 and FY09, Shopper's Stop has shown a gradual improvement in its financials, by taking various internal measures, like closing down the unprofitable business and reducing operational cost. It recently wrote off investments of 36 crore. 

   Its standalone operations generated a free cash flow of 84 crore over the past two financial years. This, along with expected cash flows in the coming year, will allow it to fund for its future expansion plans that are expected to be over 400 crore. Its strong cash flows would limit the risk of equity dilution or need for debt. 

   The operating cash flow for FY11 is expected to be over 120 crore against 98 crore in the previous year. The working capital has also become negative now. This is mainly due to the consignment and concession business model (which provides space to brands in exchange of a portion of their revenue) that it follows. This also ensures high inventory turnover, which has improved from eight to 10 in the past two years. Asset turnover for FY11 is expected to be around 4 as against 3.4 in FY10 and 3 in FY09.Currently, the operating margin is close to the peak levels of six. We expect it to reduce a little for the near term due to increase in the prices from the apparel makers. The company is trading at price-earning multiple of 31.3, which is not an all time high but not too low either. With all the good things factored in the current price, one can wait for a correction in its stock before buying it.

CONCERNS:

The company plans to do a capital expenditure of 400 crore over the next three to four years. Generally, the breakeven in the capex depends on the operating profits and takes around 4-5 years at EBIDTA levels. Any reduction in operating margins can extend this breakeven period. 

   The management expects some pressure on merchandise pricing and increment in selling prices by apparel makers. This can affect the operating margins and the sales. Lease rentals to earnings before interest depreciation and tax is around 0.8 times and increase in rentals can hurt the margins. However, this will be partly hedged as certain stores work on revenue-sharing model rather than paying the rent directly. In future also the company prefers revenuesharing rather than paying rentals and increasing the fixed cost.