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Recovery tracking well

DMart’s 2Q revenue performance was good despite restrictions (only limited though). Gross margins recovered well (194 bps QoQ and 25 bps YoY); we believe further recovery in general merchandising will likely benefit gross margins. EBITDA margin expansion was led by operating leverage. In FY22 and beyond, we believe it could benefit from (1) the (consumer) relevance of value for money positioning, which, in our view, may potentially be a stronger competitive advantage and (2) price-led operating leverage (beneficiary of inflation). Capex recovery and DMart Ready’s gradual expansion are also encouraging. Extremely expensive valuations limit our willingness to have a constructive view; stock now trades at 128x P/E on FY23E. Downgrade to SELL (from REDUCE) (TP Rs4,000).

* Revenue growth led by better mobility: Revenue / EBITDA / PAT grew 47% / 106% / 113% YoY respectively. Mobility was much better compared to the base quarter (2QFY21) even as restrictions (only limited though) on store operations continued for at least some part (store timings had to be curtained); 26 new stores have been added in the last 12 months. Management highlighted that two year or older stores (187 in total) grew by 23.7% YoY.

On a sequential basis, the recovery was strong with revenue growth of 52%. We note that restrictions on movement of people for non-essential purposes were softer (compared to same time last year) which aided mobility in general. We note that in the past management has stated that a store needs 45 days of unhindered operational time to get back to pre-Covid sales momentum

* Robust (in-line) margin profile: Gross margin expanded a healthy 194bps QoQ and 25bps YoY to 14.3%. We note that in the last quarter the gross margin was at the lowest ever level (12.4%). We believe that (1) sale of general merchandise would still not have recorded to pre-Covid levels and (2) the benefit of rising staples and FMCG prices is yet to be seen in margins. Nevertheless, EBITDA margin expanded 253bps YoY to 8.8% primarily driven operating leverage benefit.

* Other highlights: 1) Opened 8 new stores in Q2 (12 in H1FY22) adding retail space of 0.4mn sq. ft.; it now has 246 stores with a retail space of 9.4mn sqft, 2) Soft launch of DMart Ready is done in the cities of Surat and Vadodara, (3) Capex for H1FY22 amounted to Rs10.3 bn (H1FY21: Rs6.3 bn).

* Valuation and risks: We increase our earnings estimate for FY22/23E by 3-5%; we now model revenue / EBITDA / PAT CAGR of 36% / 51% / 52% over FY21-23E. We downgrade the stock to SELL (from REDUCE) with a DCF-based revised target price of Rs4,000. Key upside risks are fast turnaround of e-commerce operations and lowerthan-expected competitive intensity.

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