DFI Retail Group - DBS Research 2022-11-09: Upgrade To Non-Consensus BUY

DFI Retail Group - Upgrade To Non-Consensus BUY

  • We are making a non-consensus call and upgrading DFI Retail Group (SGX:D01) to BUY with a higher target price of US$3.07.
  • With DFI Retail's share price beaten down, and recently hitting an 18-year low (since 2004), dropping momentarily under US$2 earlier in late October, we believe the odds of an upside vs downside favour the former, as well as the brave.

Market has rightfully penalised DFI for its lacklustre business performance.

  • DFI's share price has been on a steady decline since 2019, in line with falling profits driven by Hong Kong’s street protest (2019) and COVID-19 (2020-2022). Core operating profits and contribution from associates declined by 24% per annum (FY18-FY21) and are expected to decline further in 2022.
  • The rising interest rate environment, negative economic conditions in North Asia, and worsening US-China tensions had driven investors of North Asia businesses to the exit. DFI Retail, having significant North Asia exposure (73% sales mix as of FY21), was not sparred from the investor exodus. Year-to-date, DFI's share price has declined by 17% while STI remained flattish.

Are we at the bottom and is it time for inflexion?

  • Our view is that most of the negatives have been baked into FY22F, with earnings projected to hit a historical low. Our key investment theses are
    1. low likelihood of reinstatement of severe COVID restrictions in Hong Kong,
    2. recovery of associates, and
    3. attractive valuation looking towards FY23F/24F with earnings rebound.
  • At present, we believe the odds are stacked in favour of profitability posting a strong rebound in FY23F, arising from an improvement in its associates (Maxim’s Group and Yonghui Supermarkets), convenience store operations, health and beauty, and home furnishing. This is negated partially by its digital investments, which we expect to continue into 1H23F. We have pencilled in a further US$30m investment, down from the US$60m we have included in our FY22F forecasts.

Easing of COVID restrictions in Hong Kong, a key market of DFI and for its key associate, Maxim’s Group.

  • 50%-owned associate Maxim’s Group has been a key contributor to DFI Retail’s bottom line. Conditions in Hong Kong have dragged Maxim’s sales and profitability in the last three years. Prior to COVID-19 in 2020 and Hong Kong’s street protests in 2019, Maxim’s revenue and bottom line were US$2.6bn and US$209m, respectively, with a net margin of 8% – DFI Retail’s share was US$104.5m in FY18 (29% of net profits from underlying business).
  • With the loosening of dining restrictions in Hong Kong, we believe Maxim’s should reasonably be able to achieve FY19 sales and margins in FY23 (contributing ~34% to FY23F earnings). Recall that FY19 is an abnormal year impacted by street protests. Further, Maxim’s has since increased their store count by 48 between 2019 and 2022.
  • From FY24F onwards, we expect sales growth and margins to normalise at a mid-single digit and 7% level, respectively, driven by the expansion of stores in the Southeast Asian region, namely Thailand, Singapore, Vietnam, and Cambodia. Conservatively, we expect Maxim’s to revert to its FY18 profitability level by FY25F.

Changing Chinese supermarket dynamics.

  • In the past few years, supermarket margins in Mainland China have been compressed due to competitive pressure from Community Group Buying (CGB) platforms. However, with investors prioritising profitability over growth, leading players have cut subsidies to ease costs.
  • We believe DFI Retail’s 21.1%-owned associate Yonghui Superstores will be a beneficiary of easing competition and expect a margin improvement in FY23 amid the normalising operating environment.

DFI Retail – Valuation & Forecasts

  • We have revised FY22F earnings forecast for DFI Retail downwards by 23.5% in view of higher digitalisation investment costs that are to be mostly incurred in FY22F. For FY23, we revised associates’ earnings higher in view of the changing business landscape (Maxim’s Group and Yonghui Superstores) highlighted previously, negated partially by digitisation investment costs.
  • In view of the potential earnings turn in FY23F, driven by its easing Hong Kong restrictions, helping Maxim’s, coupled with improvement in Yonghui Superstores’ outlook, we are taking a non-consensus early call to upgrade DFI Retail to BUY.
  • We do expect 2H22F to post improvement h-o-h vs 1H22, but with only a slight improvement on a y-o-y basis, given its digitalisation investment costs are still expected to weigh in 2H22. That said, we believe FY22F is likely to be the worst point for DFI Retail, with FY23F as the inflection point.
  • We pegged DFI Retail’s valuation to 17.5x P/E ratio on FY23F earnings, which represents -1.5 standard deviation from its 10-year mean and project a yield of 4.3% in FY23F.

Where could we go wrong in our non-consensus BUY call for DFI?

  • Misplaced expectations and slower-than-expected recovery for Maxim’s.
  • Delayed route to profitability for Yonghui Superstores.
  • Sustained digitalisation costs beyond estimates.

Above is the excerpt from report by DBS Group Research.
Clients of DBS may access the full report in PDF @ https://www.dbs.com/insightsdirect/.

Andy SIM CFA DBS Group Research | Singapore Research Team DBS Research | https://www.dbs.com/insightsdirect/ 2022-11-09
SGX Stock Analyst Report BUY UPGRADE HOLD 3.07 UP 2.670

Previous report by DBS Research:
2022-08-01 DFI Retail Group - Still Not A Convenient Time; Awaiting Visible Catalysts

Relevant links:
DFI Retail Analyst Report,
DFI Retail Target Price,

DFI Retail Share Price History,
DFI Retail Announcements,
DFI Retail Dividends/ Corp Actions,
DFI Retail News Articles


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