X5 Retail Group - Downgrading Offline, Upgrading Online

Based on our proprietary market model, Russia's e-grocery segment should account for 6% of food retail turnover in the long term, with GMV expanding at a 37% medium-term CAGR to R1 trln in 2026. X5's online business should become profitable in 2022 (it already is at the store level). We estimate that the channel's GMV should expand from R20 bln in 2020 to R226 bln in 2024, with EBITDA reaching R13.7 bln in 2024. This should compensate for our lower margin assumptions for the offline business. Our new target price is $47 per GDR, and we reiterate our BUY recommendation.> We expect e-grocery to be adopted by 45% of the population meeting the income criteria... This includes only those with a monthly income of at least R40k in Moscow and R32k elsewhere, meaning 19% of Russians may end up using the service in the long term. Potential upside is from income growth or lower-income customers adopting express delivery.> ...suggesting a 6% long-term share in food retail turnover. We estimate an 8% share in Moscow and 5% in the regions, with e-grocery shoppers allocating 19-30% of their food budgets to online. This suggests food retail turnover expanding from R153 bln in 2020 to R1.0 trln in 2026. The regions should outpace Moscow this year.> X5 and SberMarket leading the segment. X5 led the market with a 13% share in 2020, though SberMarket generated higher GMV in 2H20. X5's online revenues are more geographically concentrated (supportive for margins) and it dominates in its key regions of presence. Its online service does not cannibalize offline revenues, so customers are redirecting more of their food budgets to the chain. Perekrestok Express leads in terms of NPS rating, while Vprok is in the middle of the pack. We expect X5's online GMV to expand to R220 bln in 2024, for a 31% share in the e-grocery market.> X5's e-grocery segment has reached breakeven at store level, should break even on segment level in 2022. Capacity utilization is crucial for unit economics, while scale is needed to dilute massive marketing and fixed operating costs. Good progress in these two areas suggests positive EBITDA of R2.1 bln in 2022, rising to R13.8 bln in 2024.> We shave our TP down to $47 per GDR; BUY reiterated. Excess margins have been reinvested in the top line in the fourth quarter in three of the past five years. Hence we capped our offline EBITDA margin forecasts at 7.2%. This has trimmed $2 from our TP, though we have added $1 back via our more detailed online model. Our new TP implies a 2021E EV/EBITDA of 7.7, below the average of 9.0 for both DM and EM peers.> Separate valuation for the online business could yield higher value. We could value its 2024E EBITDA at 10 times EBITDA. Discounting at 12% would provide a R100 bln valuation in 2021, or $5 per GDR (versus $4 per GDR from our current DCF). This approach would value the online business at 0.6 times 2024E GMV and 0.8 times revenues.