Mitra Adiperkasa Navigating The Red Ocean
We reinitiate coverage of PT Mitra Adiperkasa Tbk (MAPI) with a NEUTRAL rating and DCF-derived TP of IDR5,750 (implying a 33.8x FY15F P/E). Despite the recent very welcomed spin-off of its sports division, we believe it is not easy for MAPI to return to the good old days as specialty stores are the last fortress for MAPI to defend from the heated competition in Jakarta. The weak IDR might also dampen its customers’ appetites for pricier, imported lifestyle goods.
Difficult to return to the good old days
With the increasing influx of foreign retailers (eg Uniqlo and H&M targeting the young adult segment) and department stores (eg Central and Parkson), the competition in Jakarta is very heated indeed for MAPI.
Specialty stores are the last fortress
Its specialty stores are the biggest sales contributor for MAPI at 63.4% of its total consolidated sales in FY14, and we expect this segment to keep contributing more in the coming years as MAPI’s department stores are already operating at a meager 0.1% operating margin in FY14.
Reduced interest expense and better direction from CVC Capital Partners (CVC)
The recent spin-off of MAPI’s sports division, PT MAP Aktif Perkasa (MAA), and the related transactions of CVC in MAA, would save MAPI an annual interest expense c.IDR90bn in FY15. This would also enable MAPI to have an experienced partner in running and developing the sports business further prior to the IPO plan of MAA in four to five years from now.
Reinitiating coverage with a NEUTRAL and a TP of IDR5,750 (a 4% downside). Our DCF-based TP is derived using a WACC of 10.4% and TG of 5%, which will imply a 33.8x FY15F P/E.
Risks
A much slower expansion outside of Jakarta, higher working capital needs from the weakening IDR vs USD, and regulation changes.
Investment Thesis
Difficult to return to the good old days
Heated competition in Jakarta. With the increasing influx of foreign retailers (eg Uniqlo and H&M targeting the young adult segment) and department stores (eg Central and Parkson), the competition in Jakarta is indeed very heated for MAPI given 69% of its net revenues in FY14 was derived from Jakarta. Furthermore, specialty stores and department stores contributed for a combined 85.4% of MAPI’s net revenues in FY14.
The weak IDR might also dampen the shopping appetite of MAPI’s customers to purchase imported clothing and goods, as evidenced by weak Same Stores Sales Growth (SSSG) of 3% and -2% in Dec 2014 and Jan 2015, respectively. Frequent discounting/promotions to reduce excess inventory, amidst intense competition, and higher operating costs resulted in lower gross margin at 45.9% in FY14 compared to 46.3% in FY13. We expect MAPI’s gross margin to remain flat in FY15.
MAPI has effectively, been forced by the competition, import regulation change and excess heavy inventory to move closer to a low asset turnover and low margin business. We believe it will take a longer time for MAPI to move back to the right, as it was in 2011, if at all possible.
Comparison with Matahari Department Store
One of the reasons MAPI is losing to the competition is due to a lack of its own brand. In contrast, Matahari Department Store (LPPF IJ, BUY, TP: IDR22,000) has been able to maintain its margins due to its strong brand affiliation with its middle class customers. Furthermore, Matahari is also successful in developing its well-accepted private-label brand, enabling it to maintain stable margins.
Specialty stores: the last fortress
Specialty stores were the biggest sales contributor for MAPI at 63% and 95% of its total net revenues and operating profit in FY14, respectively. Zara, Marks & Spencer, Reebok, and Nike are MAPI’s top leading brands. In Jan 2015, MAPI was able to acquire Mango brand from Trans Fashion, its competitor in Indonesia.
We expect specialty stores to keep contributing more in the coming years for MAPI. Without its department stores (only yielding a low 0.1% operating margin), MAPI would find it harder to negotiate rents in Jakarta as the city has become a landlord’s market given the limited retail space supply.
While the specialty stores’ SSSG increased to 13% in 9M14, the operating margin of specialty stores had been declining since 2012 due to higher competition, margin compression from MAPI’s frequent discounting to reduce excess inventory, and higher costs of opening new specialty stores (Note: 60% of the inventory was from the Sports & Golf products).
More expensive rent
Jakarta continues to be a landlord’s market given the limited retail space supply. Thus, we expect MAPI’s bargaining power on rental space to weaken as malls become very selective of their tenant mix. As such, MAPI plans to increase its sales contribution from the non-Java regions to 40% from the current 15% in FY14 within the next three to five years.
A closer look into the department store segment
Department stores contributed 22% of MAPI’s total revenues, but only 0.3% of total operating profit in FY14. Sogo and Debenhams are the biggest revenues contributors with c.50% of department stores segment’s revenues. FoodHall (MAPI’s supermarket targeting the upper-end segment) contributed c.17% of department stores segment’s revenues.
MAPI is facing intense competition from other department stores (eg Central, Lotte, and Parkson) as evidenced by the declining SSSG of department stores to its lowest level at 5% in 9M14. Its FoodHall supermarkets are competing with the likes of Ranch Market and Kem Chicks supermarkets.
In Jan 2015, MAPI closed one of its Lotus department stores in the Bekasi Square mall. We think it is necessary for MAPI to stabilize its declining operating margin, which reached a dangerously low level at only 0.1% in FY14. Should MAPI be able to close more of its unprofitable department stores, we believe its operating margin can rebound, as it did back when it closed Harvey Nichols in Oct 2010.
Benefits of running the department stores
Despite a low operating margin, the large sizes of department stores, as anchor tenants, have helped MAPI during the negotiation of rental space lease for its specialty stores. Secondly, the department stores also act as MAPI’s laboratory to test whether a new brand concept will generate enough traction.
If there is enough interest for the new brand, then MAPI will establish a stand-alone store for that promising brand. Thirdly, the cash conversion cycle of department stores is actually negative, which helps MAPI in terms of operating cash flow, as c.80% of department stores sales are consignment sales.
CVC will put representatives in MAA’s Board of Directors and Board of Commissioner, which will lead to better supply chain management for MAA. The transaction implies the value of MAA is roughly IDR5trn (USD384mn) or 1.3x Price/Sales as MAA accounts for 30% of MAPI’s sales and one-third of MAPI’s EBITDA.
Weak USD/IDR exchange rate will require higher funding to purchase inventory. Although MAPI is determined to bring down fast its excess inventory days to 157 days (a level similar to in FY11) to lower its working capital and the associated financing costs, we believe that MAPI’s working capital in FY15 will still be high due to the elevated USD/IDR exchange rate surpassing the 13,000 level (Note: MAPI purchases 60% of its merchandise with foreign currency), which is dampening MAPI’s customers desire to buy imported clothing and goods.
However, with the expected IDR1.5trn bank loan repayment using the proceeds of the zero coupon bond (of the same size IDR1.5trn) from the MAA transaction above, MAPI is estimated to save c.IDR93bn of interest expense in FY15. The net gearing will still be high, but the interest expense will be lower as the new bond is a zero interest/zero coupon bond, which will be repaid once MAA goes to IPO in four to five years from now.
Further action taken to address inventory issue
In the past, the merchandise ordering was usually done in July/August while budgeting was done later in November. This created potential problems as sometimes the ordered goods turned out to be excessive compared to the budgeted amount. A new initiative to include inventory days and cash flow matrix are now included in the KPI of the merchandisers. Furthermore, MAPI has recently appointed a COO to oversee its whole supply chain organization. We will surely pay attention whether all these actions bring positive results in the coming months.
Measured expansion plan
Going forward, we expect MAPI to expand more conservatively adding 40,000 sq m annually (ie Specialty stores: 25,000 sq m, Department Stores: 15,000 sq m, and F&B: 5,000 sq m every year). Aside from focusing on its specialty stores expansion, we believe MAPI will keep rationalizing and closing unprofitable stores. Recently, it closed its Lotus department store in the Bekasi Square Mall in Jan 2015.
Consolidating the Food & Beverage (F&B) segment: F&B contributed 13% of MAPI’s total revenues and 3.5% of the total operating profit in FY14. Starbucks is the major contributor with c.60% of the F&B segment’s revenues, owing to the extensive 198 Starbucks outlets it has. MAPI plans to add 30-35 Starbucks outlets annually.
With the 51% divestment of DPI (via capital injection) to Everstone Capital Asia concluded in last Oct 2014, MAPI will be able to preserve its cash and benefit from further expansion of DPI as Everstone plans to open 10-20 Domino’s outlets per year. MAPI could not do a 100% divestment as the government restricts foreign ownership in the food services sector to 51%.
MAPI also reduced its stake in Sari Burger Indonesia (SBI), which owns the Burger King franchise in Indonesia. SBI got equity injection from QSR Burger such that MAPI’s stake is diluted to 60%. MAPI plans to further reduce its stake in SBI to 49% within the next few years.
Key Risks
MAPI plans to increase its sales contribution from the non-Java region to 40% (within the next three to five years) from the current 15% in FY14. More specifically, the contribution from Jakarta is still very high at 69% in FY14. With the increasing influx of foreign retailers, lured by the rising middle income base of Indonesia, the competition in Jakarta is already heated and Jakarta is expected to continue as a landlord’s market, given the limited retail space supply. In the case of MAPI, we expect its bargaining power on rental space to weaken as malls are becoming very selective of its tenant mix.
As MAPI purchases 60% of inventory with foreign currency, MAPI will need higher working capital if the IDR keeps depreciating against the USD. MAPI passes those higher costs to its customers. However, if IDR further weakens to 13,000 or higher, MAPI’s customers will likely reduce their purchases of MAPI products, in our opinion, forcing MAPI to keep discounting its sales price to maintain/reduce inventory, putting pressure on its margins.
The regulation on the retail industry is changing
There have been quite a few new regulations since 2013 that have affected MAPI. Furthermore, any changes in import tax rate (such as the increase to 7.5% from 2.5% in 2013) can adversely affect MAPI in terms of its higher working capital requirement.
Company Profile
PT Mitra Adiperkasa Tbk (MAPI IJ) was incorporated in 1995 and has become the dominant lifestyle retailer in Indonesia, targeting the medium-range to premium-end segments. It operates specialty stores (eg Zara, Marks & Spencer, Sports Station and Planet Sports), department stores (eg Sogo, Debenhams, Seibu and Lotus) and F&B retail chains (Starbucks, Krispy Kreme, etc), with presence in 64 cities throughout Indonesia.
