EUR 26.87 For Business Accounts Only

Best to outperform as consolidation plays out

Remain buyers as traditional players lose ground. The departure of >1mn expats, along with the unchanged spending outlook, took their toll on Saudi’s grocery sector in 2018 (-2% y-o-y), and weighed on Al-Othaim’s LFL sales growth (-7.5%). We expect the shift towards modern retail to further accelerate in 2019, as smaller expat-run groceries unable to sustain rising opex, likely do not have the infrastructure to implement the VAT (deadline for players with turnover of SAR375k-1mn in Dec-18). We cut our 12M TP by 9% to SAR90.0/share to reflect lower store yields, on weaker-than-expected market dynamics, offset by 50% lower capex for Al-Othaim City, as the company mulls downsizing the project, focusing on key logistic needs. Al-Othaim trades on a 2019e P/E of 18.4x, 17% below Farm Superstores, and in line with global peers and our retailers' coverage, despite its defensive sales mix.

Room for yield recovery. We expect the drop in store yields to ease in 2019e (-3.4% vs. -10.8% in 2018), as market share gains accelerate, along with rising focus on attracting Saudis (60% of loyalty programme sales), despite another wave of expected expat departures and ongoing expansions (targeting 28 stores). We are unconcerned by: i) Panda and Farm Superstores’ moves to downgrade their value propositions to target low income levels, thanks to Al-Othaim’s loyalty programme (>75% of sales), and ii) Lulu’s aggressive expansions, due to different clientele mix.

Growing bargaining power on dominant position. Garnering more market share, as Al-Othaim displaces unorganised players, should further strengthen its bargaining power over suppliers. Traditional players’ (55% of the market) sales contracted by 1.8% in 2017-18 vs. 0.5% for modern retailers. This should partially mitigate pressures stemming from rising expat fees and expansion costs, implying a minor contraction in 2019 EBITDA margin (-c20bps y-o-y to 6.8%). Successful negotiations with suppliers and deleveraging left clean 2018 EPS flat (+2.5% y-o-y). Due to intense competition and lack of market insight, the company halted expansions in Egypt (c2% of sales) for 2019, revaluating the loss-making operations.