EUR 850.00 For Business Accounts Only

Morningstar | Carrefour Reports Broadly In-Line First-Half Results; Shares Up 10% but Still Undervalued

Carrefour reported first-half 2018 results with like-for-like and group sales up 0.7% and 2.2%, respectively, at constant exchange rates, in line with our expectations. We maintain our no-moat rating and EUR 17.9 fair value estimate. Operating margin was stable at 1.6%, with recurring operating income up 5.8% at constant exchange rates (EUR 597 million) versus the year-ago period. The company is continuing the implementation of its transformational plan, announced at the beginning of the year, with management reiterating guidance and confirming consensus despite disappointing retail profitability numbers for France.

We have taken the following three positive developments from this update. First, we believe that the group's latest efforts to revitalise hypermarkets in France through reducing sales area (sale to adjacent shopping malls) and deploying the new organic concept in more than 80% of the hypermarket network by year-end are in the right direction. We will be looking for signs of a performance turnaround in France in the next few quarters, driven by improved hypermarket trading. Second, there was a notable improvement in free cash flow excluding exceptional items of EUR 418 million, driven by working capital (decrease of EUR 175 million in inventories) and lower capital expenditure (more selective investments in growth areas). Third, the exit of the 273 loss-making ex-Dia stores (management confirmed losses were 74 million in first-half 2017) from the group's scope is under way and will be completed by the end of July.

Shares were trading 10% higher on the morning of July 27, 2018, but are still 15%-17% lower than our EUR 17.90 fair value estimate, which implies a forward fiscal 2018 price/earnings ratio of 16 times and enterprise value/EBITDA ratio of 5 times.

In France (45% of group sales), like-for-like sales were stable, in line with expectations, but operating income disappointed as it declined EUR 89 million, down 45% versus the year-ago period, on the back of a fierce competitive environment and corresponding price investments. That said, although cost savings effects were limited in the first half, management expects they will be much more pronounced in the next few quarters.

In Europe, total sales increased by 0.7% at constant exchange rates, with Southern Europe (down 2.5% like for like) still facing strong competition and a weak consumer environment, while Northern Europe grew by 1.5% (up 0.2% LFL). Recurring operating income for the region was flat, representing a stable operating margin of 1.5%, with cost savings recouping strong trading pressures and necessary investments.

In Latin America (20% of group sales), sales were up 9.3% at constant exchange rates (up 6.4% LFL) with Brazil's sales (more than 80% of segment sales) growing by 5.8%, aided by the opening of 10 new Atacadao stores during the period. At constant exchange rates, operating margin improved by 60 basis points to 4.3%.

Finally, in Asia (7% of group sales), sales were down 4.6% at constant exchange rates, affected by strong competition from the e-commerce channel, with cost savings and closures of loss-making stores contributing to profitability improvements.

We maintain our negative moat trend rating for Carrefour, based on its high large-store exposure in France, a format in structural decline, as well as intense competition in that market.