EUR 850.00 For Business Accounts Only

Morningstar | Casino's Debt Rating Downgrade and Concerns Around Rallye's Liquidity Risk Weigh on Shares

The past couple of weeks have brought a fair amount of volatility in Casino's stock price, with shares down 20%. Three main developments helped propel the fall: worries regarding the company's accounting practices around the ownership changes of Franprix and Leader Price stores, the delayed filing of annual accounts by a key finance subsidiary, and finally the downgrade by S&P of the company's debt rating by one notch to BB. Although we appreciate the market's nervousness around Casino's complex ownership structure and reporting practices (both of which are highlighted in our thesis), we are maintaining our fair value estimate of EUR 32, as our thesis is intact.

On franchisees, Casino has regularly sold portions of its holdings on some of its stores to master franchisees, resulting in favorable accounting treatment for the group; Casino normally sells the majority of its stake on lossmaking stores while retaining the majority stake on the profitable ones. Although the accounting treatment ends up artificially increasing consolidated profits, this is a common practice utilized by retailers in order to improve the operational performance of certain stores.

Rallye, which owns 51% of Casino stock, has EUR 2.877 billion in net leverage (Dec. 31, 2017), more than 5 times higher than its EUR 477 million market cap (Sept. 9, 2018), and primarily relies on dividends from Casino to pay down its debt. The market is concerned about a technical overhang on Casino shares, in the event Rallye defaults and its Casino shares end up in the hands of the banks (a large portion of credit lines available are pledged on Casino shares owned by Rallye).

Aside from any technical effect the Rallye situation may have on Casino's share price, if the company continues its deleverage plan (EUR 1.5 billion by first-half 2019 and Via Varejo disposal) and doesn't get distracted by recent developments, further share declines may present buying opportunities.

We reiterate our very high uncertainty rating for Casino Group, based on the company's high leverage and complex ownership structure, both of which introduce elevated variances in our estimates.

We are maintaining our negative moat trend rating for Casino Group, as we believe the company will have to eventually sacrifice profitability at its main French banner, Monoprix, to defend its market position against Leclerc's disruptive online offering in the Paris area, the most important region for Casino’s most significant marquee (60% of Monoprix’s sales come from Paris and its suburbs). We estimate that Monoprix accounts for 23% of sales and 65% of operating income in the France retail segment, which in turn is responsible for more than half of overall revenue and almost half of Casino’s profitability.

We expect volatility in the stock price to continue in the coming months as key refinancing dates approach for Rallye (EUR 670 million in October) and the asset-disposal program takes effect (EUR 1.5 billion, of which 50% will come in the second half of 2018 and the rest in the first half of 2019).