EUR 27.72 For Business Accounts Only

Cut to N, as retailers’ credit dependence bites

Reduce 12M TP to EGP1.90/share vs. EGP4.30/share. We see macro and industry-related bumps ahead that will be hard to weather, and our sharp 12M TP reduction reflects lower margin and, to a greater extent, higher working capital assumptions. ISP’s cash from operations was negative in 2021 due to a rise in receivable days. This trend continued in 1Q22 by a surprising quantum, leaving cash from operations at -4.7x EBITDA. To fund working capital, we see 2022 net debt rising 52% y-o-y to 2.4x EBITDA, further pressuring earnings given elevated interest rates. We downgrade our rating to Neutral, despite the share underperformance and TP accretion from the acquired hospital (EGP0.60/share).

Managing cash flow is challenging in a channel that it largely credit dependent. The EDA may begin approving higher drug prices soon to counter the effect of a weaker EGP. All else constant, ISP should benefit as its margin, although regulated, will be generated on a higher absolute top line. We highlight the risk of lower market volumes on consumption pressures: Apr-22 pharma sales volume declined by 5.7% y-o-y. We are also apprehensive of the elevated working capital burden ISP has in a market that has high dependency on credit. Pharma retail, where ISP has a market share of c17%, was c66% of the company’s 2021 revenue.

Plans to turn cash flow positive by year-end is ambitious. ISP looks to focus on non-pharma, where margins are unregulated, cash-paying clients, established retail pharmacy chains, and hospital tenders (with better financial health vs. standalone pharmacies), as well as extending credit terms with suppliers. Typically, 20-25% of supplier purchases are paid in cash for cash discounts. These efforts will not prove sufficient to reduce working capital, in our view, and may come at the expense of margins. We reduce our 2022-24 EBITDA margin forecasts by 0.8pp p.a..

Competing with scale compromises yield. Although over 2018-21 ISP grew its market share to 17.1% vs. 14.5%, its cumulative FCF was a negative EGP0.7bn. The scale it reached appears to have compromised cash generation because client additions were most likely highly fragmented low-value and credit-reliant standalone pharmacies. The extent to which management will opt to reduce its market share or redirect distribution capacity towards non-pharma is the main upside to our rating.