MASTERS IN FINANCE EQUITY RESEARCH JERÓNIMO MARTINS COMPANY REPORT RETAIL 7 JANUARY 2015 STUDENT: CARLOTA SELADAS [email protected] Jerónimo Martins Back on Track Recommendation: Buy Biedronka moving upmarket Target Price 2015YE: € 10.95 . We start JM with a Buy recommendation and a 2015YE Price (as of 06-Jan-15) € 7.73 Target Price of EUR 10.95 with an upside of roughly 42%. We Bloomberg: JMT PL; Reuters JMT PT think that the stock trading at 14.1x 2015 Earnings Consensus despite not being in the deep value category is clearly close to its 52-week range (€) 14,695-6,935 Market Cap (€m) 4.977,7 comps’ median (13.2x), which has not been usual in JM. Outstanding Shares (m) 629.3 Regardless of the poor earnings momentum JM is still generating Avg Daily Volume (k) 10.388 Primary Listing Portugal0.000 0000 a huge amount of cash keeping a Net Debt/Ebitda at substantial Source: Bloomberg low levels. 2014 was a year of inflection for the Polish operation. For the first time since the late 90s Biedronka reported negative YoY LfL sales (-2.7%, 0.3% and -1.3% in Q1, Q2 and Q3, respectively). This was driven by intensive market competition and underperformance (increasing cannibalization from overrate expansion plan and limitations on reduced assortment has set a Source: Bloomberg profitability gap between urban and non-urban stores). Our key to 2013 2014E 2015E investment thesis is Biedronka which despite the poor earnings Financials Revenues (€ mn) 11 829 12 514 13 317 momentum still holds a very attractive format (food only, low EBITDA (€ mn) 777 710 744 capital, low cost and low prices). We are confident that JM’s new Net Profit (€ mn) 382.3 302.6 311.7 EPS (€) 0.61 0.48 0.50 strategy to lift the shopping experience will put Biedronka back on Valuation track. EV/Revenues (%) 68.9% 65.1% 61.2% EV/EBITDA (x) 10.5x 11.5x 10.9X . Portugal operation despite the difficult years of soft Source: Nova Research demand and lack of growth remains stable, with limited downside Jeronimo Martins is a Portuguese retailer which risks. operates in Portugal through its supermarkets (Pingo Doce) and Cash&Carry (Recheio), in Poland through . Colombia is an attractive market, with growing confidence its supermarkets (Biedronka) and more recently set around the operation which could potentially be an avenue for up an operation in Colombia. The company is also involved in manufacturing (holdings in Unilever and growth. Nonetheless more years are needed to assess the sales Gallo) and services activities. density (we forecast operational breakeven in 2019). THIS REPORT WAS PREPARED BY CARLOTA SELADAS, A MASTERS IN FINANCE STUDENT OF THE NOVA SCHOOL OF BUSINESS AND ECONOMICS, EXCLUSIVELY FOR ACADEMIC PURPOSES. THIS REPORT WAS SUPERVISED BY ROSÁRIO ANDRÉ WHO REVIEWED THE VALUATION METHODOLOGY AND THE FINANCIAL MODEL. (SEE DISCLOSURES AND DISCLAIMERS AT END OF DOCUMENT) See more information at WWW.NOVASBE.PT Page 1/41 JERONIMO MARTINS COMPANY REPORT Table of Contents INVESTMENT CASE ............................................................................... 3 RISK FACTORS .......................................................................................... 4 VALUATION ............................................................................................... 4 COMPANY OVERVIEW ......................................................................... ..5 COMPANY DESCRIPTION ............................................................................. 6 220 YEARS OF HISTORY ........................................................................... 12 BIEDRONKA’S STRATEGY .......................................................................... 13 SHAREHOLDER STRUCTURE ...................................................................... 14 CORPORATE GOVERNANCE…………………………………………………….15 STOCK PRICE PERFORMANCE................................................................... 16 MARKET PROSPECTS ......................................................................... 17 VALUATION .......................................................................................... 25 SUM OF THE PARTS ............................................................................ 25 TARGET PRICE ..................................................................................... 28 OPERATIONAL FORECASTS............................................................... 29 PINGO DOCE ........................................................................................... 29 RECHEIO ................................................................................................. 31 BIEDRONKA ............................................................................................. 32 ARA ........................................................................................................ 34 SECTOR VALUATION ........................................................................... 38 FINANCIAL STATEMENTS .................................................................. 39 RESEARCH RECOMMENDATIONS ..................................................... 41 PAGE 2/41 JERONIMO MARTINS COMPANY REPORT Investment Case We start Jerónimo Martins with a Target Price of EUR 10.95 and a Buy recommendation, with an upside of 42%1. We think the stock trading at 14.1x 2015 Earnings (Bloomberg Consensus) despite not being in the deep value category as yet is clearly closer to its comps’ median (13.2x) which has not been usual in JM in the recent past. Nonetheless even though the current poor earnings momentum JM is still generating a considerable amount of cash that allows to further expand in Colombia while keeping Net Debt/Ebitda within low levels of [0.41x;0.52x]. We expect no changes to trend of slow sales growth and margin pressure as yet. We believe competition should remain fierce in Portugal and Poland in the medium term with an ongoing effort on promotion and prices. This will force JM to focus even more on volumes. We expect operational margins in Biedronka to fall 100bps in 2014 to 6.8% and in Pingo Doce to fall 20bps to 5.5%, leading to consolidated Ebitda margin of 5.6% in 2014, minus 90bps YoY. The retail market in Portugal is mature and consolidated. Pingo Doce operation has been penalized by the soft demand owing to austerity measures of the recent years, nonetheless the operation has remained relatively stable with sales CAGR of roughly 3% during 2011-2014 and margins coming down from 6.4% in 2011 to 5.5% expected in 2014. We believe this operation does not offer many downside risks, actually we expect margins in the long-term to improve slightly to close to 6%. In Poland we see scope for a gradual recovery of top line growth as the new Biedronka’s strategy meets success among the Polish consumer narrowing the gap between urban and non-urban stores. The stronger macro trends should also translate into a firmer demand, however we expect Biedronka in the long- term, once the Polish market becomes saturated and mature, to converge to similar operational margins as the Portuguese operation. We believe the major uncertainty lies on the efficiency of the new Biedronka’s strategy to lift sales in 2015 and 2016, so we elaborated a downside scenario where we considered a 50bps Ebitda margin decrease in 2015 and 2016 (with everything else constant) and the negative impact would be EUR 20 cents on the valuation. Colombia is an interesting market with social mobility expanding, delivering a potential for high profitability. We believe in the medium term it will continue to be loss-making as we just estimate the operation to reach operational breakeven in 1 th JM stock price as of 6 January 2015 of EUR 7.73 PAGE 3/41 JERONIMO MARTINS COMPANY REPORT 2019. We believe JM is confident about the potential of this venture which should over time compensate as Biedronka walks towards steady-state. Risk Factors The main downside risks are if the new strategy in Biedronka is not tailored enough to lift sales and narrow the profitability gap between urban and non- urban stores, the intensification of the price deflation in Poland and Portugal and the execution risk in Colombia. The upside risks are if Colombia performs better than we estimated and if the Polish and Portuguese consumer demand recovers while deflation ends sooner than we anticipated. Valuation We employed a DCF model as our valuation tool, based on our forecasts for 2014-26 (except for Ara where we enlarge the estimation period to 2014-2030). We used a discount rate based on WACC (please see exhibit 54 on page 26) and a terminal value based on perpetuity. The DCF model led us to a 2015YE Target Price of EUR 10.95 per share, which, in our opinion, reflects the value of the company in a more proper way than a peer comparison, as it includes future prospects. Exhibit 1: Target Price Breakdown 10,95 € 9,55 € 1,37 € 0,51 € 0,53 € 0,13 € -1,12 € Target Biedronka Pingo Doce Ara Recheio Joint Net Debt Price Ventures Source: Nova Research PAGE 4/41 JERONIMO MARTINS COMPANY REPORT Exhibit 2: Sales per operation Company overview evolution (EUR 000 000) 8 000 Jerónimo Martins is a Portuguese Food Retailing Group which operates in the 6 000 Food Distribution, Manufacturing and Services sectors. The Group has market 4 000 2 000 leadership positions in Poland, through its Discount chain Biedronka, and in 2 0 Portugal, through the supermarket chain Pingo Doce and the Cash & Carry 2007 2008 2009 2010 2011 2012 2013 Recheio. Moreover the Group has launched in 2013 a new operation in Biedronka Pingo Doce Recheio Source: Company Colombia