Revival in discretionary segment to be elongated…
The Indian retail sector is facing unprecedented circumstances owing to the Covid-19 outbreak leading to nationwide lockdown by the Centre as well as several state governments. Given the magnitude of Covid-19 impact in India till date, especially in high revenue generating urban zones, we anticipate the situation may not ease until festive season. Hence, we bake in revenue disruption for the next six months. Gradual store openings may witness limited operations owing to supply disruptions and implementation of social distancing norms. We have collated certain key highlights in our interaction with management over the outlook of the retail sector in the near term. We expect companies with strong balance sheet and promoter pedigree to tide over the current situation better than small peers.
* Apparel retailers are anticipating complete loss of spring-summer season (SS) sales as retailers expect sales to happen only after June. This is a critical season for retailers in terms of profitability as full pricing sales takes place across categories Retailers sitting on large inventory pile will restrict them from placing fresh orders (focus on liquidating existing inventory for upcoming autumn-winter season). Hence, we expect a contraction of gross margins in FY21E (bake in 100-200 bps gross margin decline in FY21E)
* In the near term, e-commerce is expected to be a clear beneficiary. Hence, companies have been enhancing their digital initiatives. Currently, e-commerce accounts for 5-10% contribution for most brands. E-commerce sales may grow faster but would be inadequate to compensate for loss of in-store sales. E-commerce companies have been engaging with customers and analysing demand trends that indicate there is stable consumer demand for apparels in the market
* Majority of branded players have a prominent presence in metro/urban cities (65-70% of the total carpet area). Most ‘red zones’ are centred around urban areas, which implies stringent implementation of lockdown measures. Retailers are still seeking clarity on gradual opening of standalone stores. While small branded stores (500-1000 sq ft) may be the first ones to open, large format stores such as Westside and Pantaloons (20000+sq ft) may be the last ones to operate as they cater to larger number of footfalls, which state/government authorities may not allow in the near term
* Companies have been in constant negotiations with mall owners and high street landlords to shift from a fixed rental cost model to revenue sharing model. However, malls are under severe stress as majority have availed lease rental discounting facility
Valuation and outlook
Given the prolonged pain anticipated in the retail industry, we further revise our revenue and earnings estimates downwards for FY21E on the back of a significant decline in revenues in H1FY21. Revenue recovery during festive season (Q3FY21) would be immensely critical for the struggling retail industry. In a volatile industry scenario, with uncertainty prevailing owing to external factors, investors should look beyond the near term negative impact on profitability of companies with strong balance sheet, brand patronage and good promoter pedigree as these companies would have the wherewithal to capture the growth opportunities once the business environment normalises.
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