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Soft earnings on weak discretionary demand

* Avenue Supermarts (DMART) posted revenue/PAT growth of 25%/7% YoY (6%/18% miss) in 3QFY23, as weak discretionary demand pulled down SSSG. While higher size store too increased costs, employee/other expenses per sqft has seen visible cost savings, down -6%/-10% vs the pre-Covid level, translating into 5.7% PAT margin (closer to pre-Covid levels).

* Lower footfall and weak demand in the discretionary non-FMCG segment, along with a 20% increase in the store size, affected store productivity, which may take few quarters to recover. We estimate an EBITDA/PAT CAGR of 28%/26% over FY23E-25E. We value the company at 50x EV/EBITDA on the FY24E basis and maintain our Neutral rating with a TP of INR4,050, given its rich valuation.

Revenue/PAT up 26%/7% YoY; Cost control measures visible

* DMART’s consol/standalone revenue grew by 26%/25% YoY to INR116b/ INR113b (6% miss), as the performance of the discretionary segment was weak. Growth was largely driven by the 22% store area addition. Blended revenue per sqft (annualized) declined 2% YoY to ~INR36,200 due to an increase in the average store size and store count adds of 16% YoY.

* DMART added four stores in 3QFY23 and 22 stores in 9MFY23, taking the total count to 306. We have cut our full-year store addition estimate from 45 to 40 stores, taking the total store count to 324, implying 18 new stores in 4QFY23.

* Consol/standalone gross margins declined 60bp YoY to 14.8%/14.3% (70bp below est.) due to the mix impact from the weak discretionary segment, which garners 25-30% margin vs 8-9% for FMCG. We have earlier indicated the weakness in the discretionary value segment, which is pulling down margins

* Consol/standalone EBITDA grew by 11%/12% YoY to INR9.7b (14% miss). As a result, EBITDA margin declined to 8.3%/8.6% in 3QFY23 (80bp/70bp below est). EBITDA margin is closer to the pre-Covid level (3QFY20) of 8.8% despite the low gross margin. Other expenses/employee costs increased 43%/19% YoY; however, compared to the area addition, there is visible saving, down 6%/10% on per sqft basis over the pre-Covid level.

* Subsequently, consol/standalone PAT grew by a merely 7%/9% YoY to INR5.9b/INR6.4b (18%/15% miss), with standalone PAT margin down 80bp YoY at 5.7%. DMART managed to reach closer to pre-Covid margin of 5.8%.

Key highlights from the management commentary

* FMCG and staples segments continued to outperform the general merchandise and apparel segments.

* DMart Ready has expanded E-Commerce operations in four new cities, increasing its network to 22 cities in India (vs 18 cities in 2QFY23).

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