Retail stocks set for re-rating as consumer spends improve

Continuation of the growth trend in the sector, huge valuation premium given to leaders like Reliance Retail and Avenue Supermart, more than Rs 1,500 crore of investments by Amazon into Future Retail and clear ecommerce plans would drive a re-rating in the shares of Indian retail companies, according to analysts.

Shares of Trent, Future Retail, Shoppers Stop, Spencer’s Retail and Aditya Birla Fashion have gained between 4 per cent and 6 per cent since January 1. Analysts expect Future Retail, Aditya Birla Fashion, VMart, Spencer’s, Arvind Fashion and TCNS Clothing to likely outperform the market in 2020.

Growth in the retail sector is expected to pick up in the first half of fiscal 2021, because of a likely improvement both in consumer sentiment and liquidity environment, said Kaustubh Pawaskar of Sharekhan. “Companies having sustained same-store-sales growth, steady improvement in operating margins and stable balance sheet will continue to trade at a premium to companies having volatile profitability and stress balance sheet.”

Reliance Industries recently offered the shareholders of its Reliance Retail subsidiary an option to swap their units with the parent company’s shares.

The swap ratio valued the retail business at around Rs 2.5 lakh crore, or a price-to-earnings of 64x. Avenue Supermart, which runs the D’Mart retail chain, currently trades at a PE of 106 times with a market cap of Rs 1.18 lakh crore.

“Within the sector, players with strength in private labels will continue to outperform others,” said Abhimanyu Sofat, the head of research at IIFL Securities. Over the long term, stocks like Avenue Supermarts and Trent will outperform other due to their unique business models, Sofat said.

Retail fashion companies have accelerated the pace of store addition in the recent past, mainly in Tier II/III/IV cities. Westside has superior store economics in the fast-fashion segment, while Zudio and V-Mart enjoy that in the value-fashion category.

The store economics of Aditya Birla Fashion-owned Pantaloon is likely to improve, as revenue contribution from mature stores increase with the highest ever store addition in in FY2019.

“Future Retail with the largest store network will be the biggest beneficiary of the increasing change in consumer spending habits,” said Alok Shah of Edelweiss Securities. “Having cracked the hypermarket model with Big Bazaar, the company is on the journey of store expansion and turnaround in the convenience store format, Easy Day.”

As per a recent report by the World Economic Forum, rural per capita consumption will grow 4.3 times by 2030, outpacing urban India where it is projected to be three-and-a-half fold.

While India’s top 40 cities will form a $1.5 trillion opportunity by 2030, there will be an opportunity to unlock $1.2 trillion spending in developed rural areas with 240 million consumers, by improving access to organised and online retail.

“Like other retail operators, VMart is expected to be a beneficiary of high operating leverage once spending in non-metros picks up,” Reliance Securities analyst Priyank Chheda said. “ABFRL’s (Aditya Birla Fashion) lifestyle brands are likely to continue its leadership position in fashion segment. Pantaloons’ segment is all set to witness profitable growth after years of investments leading to improved capital efficiency ratios and higher incremental RoCE (return on capital employed).”