• Dairy Farm (SGX:D01)'s 1H20 results were below expectations. 1H20 PATMI of USD115m (-35% y-o-y) met only 42% and 38% of our and Street’s estimates. While the grocery segment saw a strong turnaround, COVID- 19’s negative impact on health & beauty (H&B), convenience stores, and Maxim’s was greater-than-expected.
• Our NEUTRAL call is retained, as a large part of our FY21-22F earnings recovery expectations hinge on the relaxation of social distancing measures and border controls, which remain to be seen.

Beneficiary of COVID-19

• Dairy Farm’s grocery segment was a key COVID-19 beneficiary as lockdowns in various countries in 1H20 resulted in higher demand for food at home. Coupled with the group’s space optimisation programme and cost control measures, Singapore and Malaysia markets saw a strong profit turnaround.
• Overall, the grocery segment registered 5% y-o-y growth in 1H20 sales, and 471% surge in operating profit. Operating margin jumped to 5.3% from the 0-2.5% recorded in the last three years.
• Dairy Farm’s associate Yonghui also saw a similar trend of strong sales and earnings growth in 1Q20 when China had its extensive lockdown.
• On the other hand, IKEA saw a strong 31% y-o-y EBIT growth from a 5% y-o-y growth in sales. This was largely due to its e-commerce platform expansion and new store openings.

Detriments From COVID-19

• While we expected H&B, convenience stores and Maxim’s restaurants to be impacted by social distancing measures and the decline in tourist spending, the impact on margins were greater-than-expected, due to major operational deleverage.
• JV - Maxim’s which contributed 25% to Dairy Farm’s FY19 bottom line, reported a USD25m 1H20 loss as a result of lower footfall and temporary store closures due to social distancing measures.

Outlook Remains Cloudy

• In 2H20, the grocery segment is likely to remain strong y-o-y, with some social distancing measures still in place. However, we think the strong margin seen in 1H20 should taper down with sales moderation on a q-o-q basis, and a decline in government grants as the COVID-19 situation gradually improves in some markets.
• At the same time, we do not foresee a strong turnaround in the H&B segment and Maxim’s which have large exposure to Hong Kong. Due to its second wave of COVID-19 infections, Hong Kong has again banned restaurant dine-in services. Its tourist spending for H&B is also unlikely to recover in the near term.

Still NEUTRAL

• We cut our FY20-22F earnings by 4%, 8%, and 7%. Our DCF-derived Target Price implies 20x FY20F P/E. Stay NEUTRAL with new USD4.47 Target Price from USD4.95, 8% upside and 3% yield.
• We believe Hong Kong’s H&B and restaurant segments will recover quickly with revenge spending once the pandemic is under control and border controls are relaxed. However, when this will happen remains to be seen.

Source: RHB Invest Research - 30 Jul 2020