Equity Research Me0 xico CHDRAUI Initiation of Coverage October 3, 2018 www.banorte.com A defensive play with an attractive valuation @analisis_fundam . We are initiating coverage of CHDRAUI with a BUY rating and a PT2019 of MXN$52.00, which implies an EV/EBITDA 2019E Valentín Mendoza Auto Parts/ Consumer Discretionary / multiple of 7.1x, similar to the 3-year average Real Estate/ Retail [email protected] . The solid positioning of CHDRAUI in Mexico, along with a USD- denominated revenue generation close to 41% of total sales (2019E) BUY from El Super and Fiesta Mart, stand as defensive features Current Price $41.33 PT 2019 $52.00 . The current valuation at 7.8x EV/EBITDA TTM looks attractive, as Dividend 2018 0.45 Dividend Yield (%) 1.1% it poses a discount of ~54% relative to Walmex (16.9x) and 15% vs Upside Potential 26.9% the median of global peers (9.2x) Max – Min LTM (P$) 50.00 – 35.05 Market Cap (US$m) 2,118.7 Shares Outstanding (m) 963.9 On track to recover the profitability prior to the acquisition. The Float 15.8% acquisition of Fiesta Mart in Texas would boost company’s growth in 2018 Daily Turnover (P$ m) 18.0 Valuation metrics TTM (+22.2% in Sales, +14.9% in EBITDA and +10.4% in Net Income), while EV/EBITDA 7.8x increasing its exposure to USD; but will also put pressure on consolidated P/E 18.5x profitability (EBITDA margin 6.0%e vs. 6.4% in 2017) and will also increase leverage (1.2x ND/EBITDA vs 0.7x in 2017). In spite of the latter, we believe that the corporate focus on controlling expenses in Mexico and a possible Relative performance to Mexbol recovery in the US margins due to synergies would lead Chedraui to recover LTM 40% the profitability levels it held prior to the acquisition and to deleverage. 30% Likewise, we believe that the growth strategy towards proximity formats 20% should be a catalyst for an increase of 511bps in the ROIC by 2023. 10% Meanwhile, we consider that the current valuation at 7.0x EV/EBITDA 2018E 0% looks very attractive vs the median of the retail sector in Mexico (13.5x), -10% especially when considering the solid positioning that the company maintains -20% sep-17 dic-17 mar-18 jun-18 sep-18 on it, as well as our growth estimates. Therefore, we have rated the stock as MEXBOL CHDRAUIB BUY with a PT2019 of MXN$52.00. Financial Statements Valuation and financial metrics MXN, million 2016 2017 2018E 2019E 2016 2017 2018E 2019E Rev enues 88,529 94,583 115,610 137,675 EV/EBITDA 7.9x 7.4x 7.0x 5.9x Operating Income 4,254 4,418 5,085 6,212 P/E 20.6x 19.3x 17.5x 13.4x EBITDA 5,747 6,039 6,940 8,232 P/Book 1.5x 1.4x 1.2x 1.2x EBITDA Margin 6.5% 6.4% 6.0% 6.0% Net Income 1,953 2,079 2,296 2,996 ROE 7.5% 7.5% 7.5% 8.8% Net Margin 2.2% 2.2% 2.0% 2.2% ROA 3.7% 3.8% 3.6% 4.4% EBITDA/ Interest ex penses 8.1x 6.9x 6.9x 7.9x Total Assets 53,279 55,006 64,205 68,268 Net Debt/EBITDA 0.9x 0.7x 1.2x 0.9x Cash 943 1,522 2,623 2,454 Debt/Equity 0.2x 0.2x 0.3x 0.3x Total Liabilities 26,341 26,574 31,429 33,235 This document is provided for the reader’s convenience Debt 5,855 5,775 10,610 10,219 only. The translation from the original Spanish version Common Equity 26,938 28,432 32,777 35,033 was made by Banorte’s staff. Discrepancies may possibly arise between the original document in Spanish Source: Banorte with data from M SE and its English translation. For this reason, the original research paper in Spanish is the only official document. The Spanish version was released before the English translation. The original document entitled Inversión defensiva con una atractiva valuación “” was released on September 28, 2018. 1 Document for distribution among public CHDRAUI –Financial Statements Revenue & EBITDA Margin MXN, million MXN, million Income Statement Year 2016 2017 2018E 2019E CAGR 160,000 6.5% 6.6% Net Revenue 88,529 94,583 117,250 138,994 13.7% 140,000 6.4% 6.5% Cost of goods sold 70,313 74,916 92,261 109,271 13.4% 6.3% 6.4% Gross profit 18,216 19,666 24,990 29,723 14.8% 120,000 6.3% General expenses 13,924 15,258 18,858 21,410 12.0% 100,000 6.2% Operating Income 4,254 4,418 5,164 6,301 12.6% 80,000 6.0% 6.0% 6.1% Operating Margin 4.8% 4.7% 4.4% 4.5% -1.0% 60,000 Depreciation 1,493 1,621 1,855 2,012 7.5% 6.0% 40,000 EBITDA 5,747 6,039 7,019 8,313 11.2% 5.9% 20,000 EBITDA Margin 6.5% 6.4% 6.0% 6.0% 5.8% Interest income (expense) net (1,182) (1,181) (1,589) (1,985) 18.9% 0 5.7% Interest expense 616 664 687 985 14.1% 2015 2016 2017 2018E 2019E Interest income 19 42 68 56 10.1% Revenue EBITDA Margin Other income (expenses) (577) (595) (959) (1,044) Exchange Income (loss) (9) 36 (10) (12) -169.0% Unconsolidated subsidiaries Net Income before taxes 3,073 3,238 3,575 4,316 10.1% Provision for Income taxes 1,063 1,120 1,177 1,381 7.2% Discontinued operations Net Income & ROE Consolidated Net Income 2,010 2,117 2,398 2,935 11.5% MXN, million Minorities 57 38 45 55 Net Income 1,953 2,079 2,353 2,880 11.5% Net Margin 2.2% 2.0% 2.1% 3,500 8.6% 10.0% EPS 2.026 2.157 2.441 2.987 11.5% 3,000 7.0% 7.3% 7.4% 7.1% 8.0% 2,500 Balance Sheet (Million pesos) Total Current Assets 12,967 14,125 18,441 21,229 14.5% 2,000 6.0% Cash & Short Term Investments 943 1,522 2,623 2,454 17.3% 1,500 4.0% Long Term Assets 40,312 40,880 45,764 47,039 4.8% Property, Plant & Equipment (Net) 29,898 30,829 31,760 33,017 2.3% 1,000 2.0% Intangible Assets (Net) 500 522 945 945 21.8% 500 Total Assets 53,279 55,006 64,205 68,268 7.5% 0 0.0% Current Liabilities 18,419 18,513 17,867 20,052 2.7% 2015 2016 2017 2018E 2019E Short Term Debt 1,404 688 347 335 Accounts Payable 14,018 14,597 16,470 17,351 5.9% Net Income ROE Long Term Liabilities 7,922 8,061 13,562 13,182 17.8% Long Term Debt 4,451 5,088 10,263 9,883 Total Liabilities 26,341 26,574 31,429 33,235 7.7% Common Stock 26,938 28,432 32,777 35,033 7.2% Preferred Stock 38 44 58 Total Equity 26,938 28,150 32,435 34,668 7.2% Net Debt & Net debt to EBITDA ratio Liabilities & Equity 53,279 55,006 64,205 68,268 7.5% MXN, million Net Debt 4,881 4,156 7,987 7,765 23.2% Cash Flow (Million pesos) 2016 2017 2018E 2019E 9,000 1.4x 1.2x Cash Flow from Operating Activities 8,000 before Taxes 2,675 6,600 6,121 7,385 1.2x 7,000 0.9x Cash Flow from Operating Activities 2,675 6,600 2,488 (1,900) 0.8x 1.0x 6,000 Cash Flow from Investing Activities (1,760) (3,857) (8,065) (4,129) 0.7x 0.7x 0.8x Cash Flow from Financing Activities (3,027) (1,120) 4,515 (1,524) 5,000 Change in Cash Balance 563 8,224 5,059 (169) 4,000 0.6x 3,000 0.4x 2,000 1,000 0.2x 0 0.0x 2015 2016 2017 2018E 2019E Net Debt Net Debt to EBITDA Source: Banorte, MSE 2 Valuation and PT 2019E of MXN$52.00 Discounted Cash Flow Valuation (DCF) Our 2019 price target, calculated through a DCF method, resulted in MXN $52.00 per share. This price represents an upside potential of 26.9%, very attractive from our point of view, even more if we consider that it would imply a 2019E EV/EBITDA target multiple of 7.1x, similar to the three-year average of the 12-month forward multiple (7.5x), and below the median of the global self-service store sector of 8.6x. In our valuation model we used a Weighted Average Cost of Capital (WACC) rate of 11.6%, which was calculated with a Beta of 0.9, a Preliminary Risk Free Rate of 8.6% (Mexican 10-year bond), a market premium of 5.5% and the residual value was calculated using an EV/EBITDA multiple of 8.4x, in line with the median of comparable peers. Discounted Cash Flow Valuation MXN, million 2019e 2020e 2021e 2022e 2023e 2024e 2025e (+) EBITDA 8,232 8,872 9,660 10,500 11,450 11,730 (-)Working Capital (740) (760) (773) (840) (916) (938) (-) Capex (4,258) (4,378) (4,392) (4,423) (4,449) (4,672) (-) Taxes (2,469) (2,662) (2,898) (3,150) (3,435) (3,519) (=) Free Cash Flow 764 1,073 1,598 2,087 2,650 2,601 (+) Perpetuity 0 0 0 0 0 0 98,534 (=) Total Free Cash Flow 764 1,073 1,598 2,087 2,650 2,601 Risk -free Rate (RF) 8.6%* (+) Present Value of Cash Flows 6,963 Market Premium (MP) 5.5% (+) Present Value of Perpetuity 51,100 Beta 0.9 = Enterprise Value 58,062 CAPM 13.5% (-) Net Debt (7,765) (-) Minorities (366) Cost of Debt 5.8% Tax Rate 30.0% (=) Equity Value 49,932 Net Cost of Debt 4.0% Shares Outstanding 964 Debt/Equity 20.8% Intrinsic Value P$ 51.80 WACC 11.6% EBITDA multiple 8.4x Source: Banorte *Preliminary Subsequently, we carried out a sensitivity analysis to reflect variations to our PT assuming different levels of EV/EBITDA multiple for the terminal value, as well as for Beta and WACC.