The Hindu Business Line : Shoppers' Stop: Buy

Investors with a long-term horizon and modest return expectations in the near-term can consider exposure in the Shoppers' Stop stock, which offers a quality exposure to the retail sector.

With a strong focus on lifestyle retailing (apparel, accessories, footwear, furnishing and so on), Shoppers' Stop is best placed to capitalise on the surge in discretionary spending among the listed players.

An option to buy out a 51-per cent stake in "Hypercity," the hypermarket (large stores that sell a wide range of products from food to apparel and consumer durables at low prices) venture of its promoter group, K. Raheja Corp, provides an opportunity to the retailer to participate in that high growth segment as well, once past the teething problems.

Valuations

In its first year as a listed player, Shoppers' Stop has surprised both with its impressive performance and its transparency/governance. At current levels, valuations factor in an annual growth rate of about 35 per cent over the next five years. Such growth rates do not appear unattainable for the retailer, at least over the next three years, even as it continues to roll out new stores. Significant growth could come in after 2008, if it decides to invest in the hypermarket venture. Most of its newly-opened stores are also likely to turn profitable by then, which would have a favourable impact on earnings growth.

High valuations do expose the stock to downside risks in the event of poor performance in any quarter. Valuations are, however, unlikely to be entirely in sync with performance over the next couple of years and are more likely to be governed by the hype surrounding the sector, the entry of foreign players on relaxation of Foreign Direct Investment regulations, and the mergers and acquisitions on the entry of large corporate houses such as Reliance Industries and the Bharti Group.

Launching new formats

Shoppers' Stop raised money from the public last May for expanding its department store format to 39 stores by FY-08. The retailer is running slightly behind schedule, having opened only about four stores in FY-06. It has, however, signed up space for all its properties and is confident of being on track to its target, with several properties likely to be opened in the latter half of FY-08.

The delay in execution has been compensated with new concepts that the retailer has experimented with. Over the past year, it has become the exclusive franchisee for the UK-based Mothercare, which sells baby clothes, toys, babycare products and maternity clothes, and has set up four shop-in-shops. It plans to open 40 of these stores over the next five years and is running ahead of schedule on this. It also tied up with cosmetics major Estee Lauder to set up stores in India, and with the Europe-based Nuance group to set up shops at airports.

The international tie-ups augur well as it could serve as a reference point for other premium brands looking to enter India through the franchisee route. Shoppers' Stop has also launched Home Stop to cater to the demand for furniture and furnishings. Food and beverages outlets such as Café Brio and Desi Café have also been launched within its stores. Crossword, the chain of bookstores that Shoppers' Stop runs through its subsidiary, is expected to turn the corner by FY-07. These niche-retailing formats have the potential to contribute more to performance by improving margins and attracting customer interest.

Steadily improving performance

Shoppers' Stop ended FY-06 with revenues of Rs 675 crore, a 35 per cent increase over the previous year. Profits expanded 42 per cent. The performance on a like-to-like basis has also been impressive, with 17 per cent growth in same-store sales.

Margins expanded by 90 basis points to 7.6 per cent on the back of improved sales mix and operational efficiencies. Shoppers' Stop, unlike Pantaloon and Westside where the majority of the sales is driven by private labels, houses a large number of brands.

Mr B. S. Nagesh, Managing Director

They plan to increase the contribution of private labels to 25 per cent of sales by FY-08. In tune with their target, share of private labels such as STOP and Kashish has increased to 19 per cent from 17 per cent the previous year.

Operational efficiencies in the form of reduction in the inventory-holding period by one week and decline in consignment and concessionary sales have also had a favourable impact on gross margins.

While the inclusion of new premium brands and higher contribution from private labels are likely to boost margins, rapid expansion is likely to keep margins around the 8-per cent level. With most of the competition looking at the food and grocery segment, Shoppers' Stop, in the near term, is unlikely to be affected. Margins could trend downwards if the company decides to exercise the option to invest in Hypercity, which expires in December 2008.

Risks

Rental costs can escalate in the quarters in which they open properties in Delhi; the timeline of these store openings is not known and there could be negative earnings surprises.

Interest rate hikes and an economic downturn could, however, tighten consumer purse strings, which would affect performance. Delays in store openings will also curb growth and impact valuations.

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