Sharp profit revision, fewer store openings may dent prospects of DMart

Muted sales expectations for FY22, fewer store openings, and a higher proportion of low-margin grocery (food) sales have led to sharp earnings downgrades for Avenue Supermarts or DMart for the current financial year.
 
While the margin profile was improving as reflected in the March quarter performance and management commentary, given the lockdown in multiple states, the trend is expected to reverse. The operating profit margin for the quarter was higher by 157 basis points, to 8.3 per cent. The company indicated there had been a revival in discretionary spends not seen in the previous three quarters.
 
Due to the higher purchase of essentials — especially in the first half of FY21 — the share of food rose 500 basis points YoY to 57.4 in FY21. The share of general merchandise and apparel fell by a similar proportion last year and was a key reason for the muted margin (2.9-6.2 per cent) performance in the first two quarters.
 
While the March quarter performance was better than expected, especially on the profitability front, it did not have many surprises as the company had already reported the revenue growth performance in its Q4 update in April. The Street will look beyond this and on to the sales impact of the lockdown.
 

Prabhudas Lilladher Research has cut its FY22 profit estimates by 20 per cent on a weak outlook for the first half of this year due to local restrictions, fewer store openings, and sales mix impact. The company highlighted that there has been significant disruption from March onwards, with more than 80 per cent of stores operating for significantly fewer hours or even shut for operations. These shutdowns, according to the results release, “are having an adverse and severe impact on our revenue.”
 
It is not just fewer orders due to the restrictions but also the higher merchandise that it has to carry in anticipation of a sales uptick. The management has said that it is saddled with excess inventory, given the stocking up of products after the surge in sales in the December and March quarters. From 29 in FY20, inventory days increased to 34 days in FY21. Discounts — which had reduced in the earlier quarters — could make a comeback if the situation does not improve any time soon or the company could take a longer time to liquidate inventory. 
 
After a healthy 22-store addition, which took the total count to 234, incremental store openings could come down in the current year due to restrictions. Its free cash flow turned negative in FY21 as capex of Rs 2,029 crore offset the gains from operating cashflows that stood at Rs 1,360 crore.
 
Given the near-term sales headwinds, the stock could be under pressure; investors can consider the stock on dips.