Dairy Farm. Singapore Company Guide. BUY Last Traded Price: US$6.68 (STI : 2,868.69) Price Target : US$7.18 (7% upside) (Prev US$7.

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1 Singapore Company Guide Version 4 Bloomberg: DFI SP Reuters: DAIR.SI Refer to important disclosures at the end of this report DBS Group Research. Equity 1 Aug 2016 BUY Last Traded Price: US$6.68 (STI : 2,868.69) Price Target : US$7.18 (7% upside) (Prev US$7.03) Potential Catalyst: Earnings turnaround, margin recovery Where we differ: Below on more conservative growth outlook Analyst Alfie YEO alfieyeo@dbs.com Andy SIM CFA andysim@dbs.com What s New 1H16 results in line, driven by Yonghui and closure of some loss making stores Interim dividend of 6.5 UScts declared Operating margins look set to bottom Maintain BUY with US$7.18 TP Price Relative US$ Relative Index Jul-12 Jul-13 Jul-14 Jul-15 Jul-16 (LHS) Relative STI INDEX (RHS) Forecasts and Valuation FY Dec (US$ m) 2015A 2016F 2017F 2018F Revenue 11,137 11,387 11,830 12,491 EBITDA Pre-tax Profit Net Profit Net Pft (Pre Ex.) Net Pft Gth (Pre-ex) (%) (14.3) EPS (US cts.) EPS Pre Ex. (US cts.) EPS Gth Pre Ex (%) (14) Diluted EPS (US cts.) Net DPS (US cts.) BV Per Share (US cts.) PE (X) PE Pre Ex. (X) P/Cash Flow (X) EV/EBITDA (X) Net Div Yield (%) P/Book Value (X) Net Debt/Equity (X) ROAE (%) Earnings Rev (%): (1) (1) - Consensus EPS (US cts.): Other Broker Recs: B: 5 S: 1 H: 2 Source of all data: Company, DBS Bank, Bloomberg Finance L.P Road to recovery Maintain BUY, operating profit to improve. We maintain our BUY rating on (DFI) with an SOTP-based TP of US$7.18 with total potential return (including dividends) of 11%. Current valuations are attractive at 19.0x FY17F PE vs peer average of 22x, and currently values its core business at an attractive 17x FY17F PE. 1H16 results pointed to an improvement in operating margins from key segment, supermarket/hypermarkets, and revenue growth in local currency terms. Yonghui also contributed strongly to associate/jv income. DFI s outlook is positive with margins expected to be bottoming out and Yonghui contributing more to growth. 1H16 results in line. Revenue was US$5.5bn (-1% y-o-y) while net profit was US$199.3m (+4% y-o-y). Revenue and operating profit were lower than expected but better expected associate/jv income by Yonghui led to net profit coming in within our expectations. Although store count reduction led to lower revenue and operating profit, sales in local currency grew (+2% y-o-y) and operating margins for key supermarket segment improved as a result of reduction of loss making stores. With more loss making stores set to close, and Health & Beauty recovering from overstocking issue in 1H16, we expect margins to continue to improve. An interim dividend of 6.5 UScts was declared, within expectations. Valuation: SOTP valuation methodology. Our target price of US$7.18 is derived from sum-of-parts valuation methodology. We value DFI's core business at US$6.88 based on DCF and the 20% stake in Yonghui based on the market value at US$0.83 and net debt at US$0.53 per share. Key Risks to Our View: Significant earnings disappointment. We expect earnings growth to accelerate into FY17F as management rings in better operating efficiencies. We believe that earnings would have to disappoint significantly to derail our positive bias on the stock. Nonetheless, our earnings forecast is conservative. At A Glance Issued Capital (m shrs) 1,352 Mkt. Cap (US$m/US$m) 9,032 / 9,032 Major Shareholders (%) Jardine Strategic Holdings Ltd 77.6 Franklin Resources 4.1 Free Float (%) m Avg. Daily Val (US$m) 1.5 ICB Industry : Consumer Services / Food & Drug Retailers ed: JS/ sa:ym

2 WHAT S NEW 1H16 results 1Q16 in line Earnings in line. DFI's earnings for 1H16 was US$199.3m (+4% y-o-y), on track to meet our estimate of US$442m for the full year. While operating profit wase slightly below expectations, earnings were boosted by strong contribution by Yonghui Supermarket at the associate/jv level. Interim dividend declared was 6.5 UScts, in line with our estimate. Revenue within expectations. Headline revenue was in line at US$5.5b (-1% y-o-y) and +2% in local currency terms. Supermarket/hypermarket sales were down 2.1% (US$3.1b), led by closure of non performing stores in Singapore and Indonesia, offset by: 1) positive Convenience store sales (US$0.9b, +2.3% y-o-y) driven by higher SSSG in Singapore and store expansion in China; and 2) IKEA expansion (+4.1% y-o-y, US$0.3b). Health and Beauty sales were flat (+0.2% y- o-y, US$1.2b) with sales improvement in Hong Kong offset by Malaysia and Macau. Margins slightly down. EBIT margins came down by 0.1ppt to 3.5%, largely dragged by health and beauty stores in Hong Kong, Malaysia, and Macau. There was overstocking before Chinese New Year especially in Hong Kong which resulted in destocking activities and lower margins. Otherwise, supermarket/hypermarkets' profitability improved 0.2ppt to 2.8% (flat sequentially) as a result of non-performing stores closure especially in Singapore. Convenience stores operating margins remained flat at 2.9% and IKEA s operating margins improved 1.5ppts to 11.1%. Strong contribution from Yonghui. Yonghui contributed strongly to associate/jv income (from supermarkets) at US$20m from US$4.3m last year. It will enjoy a full 12 months' contribution from FY16F. Based on consensus, Yonghui's earnings is expected to grow by >20% next year. Margins look set to bottom Not as bad as headline numbers suggest, on track for growth. The headline numbers (revenue and operating margins) suggest that contributions from core operations (excluding Yonghui) declined slightly. However, we believe that core segments remain solid despite what the headline numbers suggest. While core operations may not look fantastic, there is no significant decline in core operating profit especially after rationalising/downsizing its supermarket business in Singapore. It is noteworthy that 1) revenue grew in local currency terms across all segments, and 2) operating margin decline was due to a one-off overstocking situation at Mannings Hong Kong which has been rectified and will not recur going forward. Forex and overstocking issues aside, we believe core operations are well placed to deliver growth going forward. Revenue grew in local currency terms. The headline revenue decline of 1% y-o-y was due to key markets currency impact against the USD. Excluding FX, sales in local currency would have growth by 2% y-o-y. The key decline in headline sales came from the Supermarkets/hypermarket segment (-2% y-o-y, US$3.1b) which saw store closures in Singapore. Nonetheless, Supermarkets/hypermarket sales in local currency terms improved by 2% y-o-y led by more advertising and promotional activities despite a smaller store base. Core regional sales (excluding FX impact) therefore remained healthy as revenue in local currency terms grew. Supermarket/hypermarket operating margins showing a turnaround. Food segment operating margins were a concern in the past three years, having compressed from 4.1% in FY13 to 2.9% last year, due largely to higher operating costs (especially in labour and rents) in the Supermarket/hypermarkets segment. After cutting nonprofitable stores in Singapore, the Supermarket/hypermarkets segment s operating margin has now improved by 0.2ppt to 2.8% from a year ago. Health & Beauty improving after operating margins hit by one-time overstocking situation. The decline in operating margin was due to a 0.8ppt drop in margins to 6.7% in the Health & Beauty segment, mainly caused by the overstocking situation and efforts to flush out stock levels in Mannings Hong Kong especially in 1Q. The drop in Health & Beauty margins should therefore be one-off. In addition, margin performance in Mannings Hong Kong has improved towards the end of the first half and we envisage that Health & Beauty s operating margins would have normalized to levels above 6.7% by the start of 2H16. Well placed to deliver core operating profit growth. Operating profit growth should be going forward. Firstly, loss making stores especially in Singapore are being rationalised. This is ongoing and further cessation of loss making stores will support operating margin improvement in the Supermarket/Hypermarket segment going forward. Secondly, improving margin performance (post 1Q overstocking issue) in the Health & Beauty segment will also support margin improvement. Yonghui to contribute strongly to net profit growth. Yonghui s contribution to associate/jv income (US$20m of US$46.5m) was better that expected. This led us to raise our FY16F forecast for associate/jv income from US$94m to US$120m. Growth for associate/jv income going forward will Page 2

3 be driven by Yonghui s earnings growth, and new franchises of Italian deluxe bakery and restaurant Cova and The Cheesecake Factory, a US brand. More debt on balance sheet. We see net gearing increasing from 35% to 47% through drawdown of loans for financing its investment in Yonghui of c.us$700m this year. Valuation Maintain BUY, TP US$7.18. We keep our earnings estimates largely unchanged as earnings are in line. We raise our SOTP based TP to US$7.18, which yields 11% potential upside (including dividends). Key changes to our TP include 1) increase in the market valuation of Yonghui from RMB33b to RMB38b; 2) higher DCF valuation (t=3.6%, WACC=8.2%) of core business as a result of more gearing and rolling forward our DCF timeline to FY22F; and 3) increase in net debt component. Our TP now comprises Yonghui at S$0.83 per share, net debt at S$0.53 per share and core business at S$6.88 per share. Our TP prices DFI s core business at an inexpensive 19x forward PE, below regional peer average of 22x. Maintain BUY. Interim Income Statement (US$m) FY Dec 1H2015 2H2015 1H2016 % chg yoy % chg hoh Revenue 5,593 5,544 5,562 (0.6) 0.3 Cost of Goods Sold (3,962) (3,891) (3,914) (1.2) 0.6 Gross Profit 1,632 1,653 1, (0.3) Other Oper. (Exp)/Inc (1,431) (1,419) (1,451) Operating Profit (1.8) (16.1) Other Non Opg (Exp)/Inc nm nm Associates & JV Inc (12.8) Net Interest (Exp)/Inc (6) (8) (9) (60.7) (12.5) Exceptional Gain/(Loss) 0 (4) 0 nm nm Pre-tax Profit (15.0) Tax (40) (45) (37) (5.3) (16.9) Minority Interest (46.5) 53.3 Net Profit (14.2) Net profit bef Except (15.7) EBITDA (15.5) Margins (%) Gross Margins Opg Profit Margins Net Profit Margins Source of all data: Company, DBS Bank Page 3

4 CRITICAL DATA POINTS TO WATCH Earnings Drivers: Seeking better bottom line from store consolidation; operating margins bottoming out. DFI is currently consolidating its stores. In 1H16, store count declined by 91 across Supermarkets/hypermarkets, Convenience Stores and Health & Beauty segments. Operating margins for supermarkets/hypermarkets segment improved by 0.2ppt y-o-y to 2.8%, benefitting from reduction of loss making supermarket stores in Singapore. In local currency terms, 1H16 turned in positive sales performance (+2% y-o-y, US$5.5b) on a reduced store count. There are still loss making stores to be closed and at the same time, DFI is also looking at opportunities to open new outlets. While we do not see a strong net increase in store count over the near term, the reduction of loss making stores will support operating margin improvement. Rent and labour costs especially in Singapore is also easing, alleviating operating margin pressure. Higher margins through fresh food and private labels. Concentration towards more fresh food has started, especially in Indonesia, in a bid to deliver higher margins. There will be more cooperation with Yonghui for more fresh food to be brought into Singapore, the Philippines and Malaysia. The private label programme will support higher margins in Health & Beauty and supermarket & hypermarket segments, and at the convenience stores, more ready-to-eat meals. In Singapore, DFI has opened a 75,000 sqft fresh distribution centre in May This will enhance sales mix of its fresh products and help to bring in higher margins through more supplier rebates and higher bulk discounts. Strengthening operations. We see DFI strengthening its operations regionally for the long term, with much of the focus geared towards improving operating efficiencies. The areas include e- commerce, IT infrastructure, supply chain, and food and product safety. Growth will be supported by its private label programme, and more distribution centres across its markets. It has already opened a fresh distribution centre in Singapore and plans to open a new distribution centre in Malaysia, slated for operations in 2H17 These will help drive higher margins going forward. Synergies with Yonghui taking shape. We expect more synergies with increased collaboration in the sharing of food supplies. These include sharing suppliers and accessing Yonghui s fresh food (e.g. fruits, etc.) supply chain for its stores in Singapore, Malaysia, Hong Kong and the Philippines. Sale of private label products within Yonghui stores (which do not have health and beauty offerings), and the opening of Mannings stores within Yonghui will be another area for cooperation. 4,611 3,842 3,074 2,305 1, Number of outlets 5,220 5,222 5,131 5,215 5, A 2015A 2016F 2017F 2018F Sales per store blended Segment revenue 2015 Segment revenue 2015 EBIT margin (%) A 2015A 2016F 2017F 2018F Health & beauty stores 21% East Asia 23% South Asia 20% Home furnishings stores 5% Food 74% North Asia 57% Page A 2014A 2015A 2016F 2017F Source: Company, DBS Bank

5 Balance Sheet: Higher net debt. DFI s net debt has increased to US$592m as at 1H16. This is largely due to drawdown of US$500m bank loans to refinance the initial US$800m of loans used to purchase 19.99% of Yonghui in DFI will add another US$190m of debt on its balance sheet in 2H16 for financing of an additional investment in Yonghui (announced in August 2015). DFI s business generates strong operational cash flows of over US$500m a year. We believe that DFI will be more than capable of paring down debt in the next few years Leverage & Asset Turnover (x) 2014A 2015A 2016F 2017F 2018F Gross Debt to Equity (LHS) Asset Turnover (RHS) Share Price Drivers: Earnings turnaround. We believe share price upside will be driven by earnings recovery. Our view on the stock is based on DFI s ability turn in a more efficient operations going forward that will drive earnings growth. Key indicators are higher contribution by Yonghui and margin expansion of core business through better cost management and margin enhancement initiatives (ie distribution centres). IT and backend enhancement initiatives should also support a better cost structure in terms of centralised procurement, logistics and other operations etc. Cooperation with Yonghui may drive long-term share price. We are positive on DFI s Yonghui investment because the partnership with Yonghui provides a good platform to scale up DFI s business in China. Longer-term opportunities include exposure to China s modern grocery retail consumption, more Mannings stores and better supply of products to each other. Key Risks: Profitability susceptible to rental and labour costs. As a retailer, labour and rental costs are key operating cost components. Significant changes in these components will affect earnings growth. Higher rental and labour costs were seen in Hong Kong, Singapore and Indonesia in FY15, which resulted in lower margins. Competitive pressure. Grocery retail customers can be price sensitive and may switch to retailers which offer more promotions. This can be a risk to market share, sales and earnings growth. In times of weaker consumer sentiment, customers may trade down from high-end supermarkets to the mass-market segment. DFI has plans to strengthen its marketing to the mass market segment and target specifically local consumers. COMPANY BACKGROUND is a Pan Asian retailer, operating over 6,400 supermarkets, hypermarkets, health and beauty stores, convenience stores, home furnishing stores and restaurants under well-known brand names in Hong Kong, Taiwan, China, Macau, Singapore, India, the Philippines, Cambodia, Brunei, Malaysia, Indonesia and Vietnam. Capital Expenditure US$m A 2015A 2016F 2017F 2018F Capital Expenditure (-) ROE (%) 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% 2014A 2015A 2016F 2017F 2018F Forward PE Band (x) (x) Jul-12 Jul-13 Jul-14 Jul-15 PB Band (x) (x) Jul-12 Jul-13 Jul-14 Jul-15 Source: Company, DBS Bank +2sd: 38.1x +1sd: 32.8x Avg: 27.4x 1sd: 22x 2sd: 16.7x +2sd: 15.18x +1sd: 12.46x Avg: 9.74x 1sd: 7.02x 2sd: 4.3x Page 5

6 Key Assumptions FY Dec 2014A 2015A 2016F 2017F 2018F Number of outlets 5,220 5,222 5,131 5,215 5,326 Sales per store blended Lower net stores Segmental Breakdown FY Dec 2014A 2015A 2016F 2017F 2018F Revenues (US$m) Food 8,109 8,197 8,366 8,551 8,916 Health & beauty stores 2,402 2,373 2,419 2,603 2,815 Home furnishings stores Total 11,008 11,137 11,387 11,830 12,491 Operating profit (US$m) Food Health & beauty stores Home furnishings stores Support office/others (43.8) (49.6) (50.7) (52.7) (55.6) Total Operating profit Margins Food Health & beauty stores Home furnishings stores Total Income Statement (US$m) FY Dec 2014A 2015A 2016F 2017F 2018F Revenue 11,008 11,137 11,387 11,830 12,491 Cost of Goods Sold (7,717) (7,852) (8,028) (8,305) (8,769) Gross Profit 3,291 3,285 3,359 3,525 3,722 Other Opng (Exp)/Inc (2,767) (2,850) (2,937) (3,071) (3,236) Operating Profit Other Non Opg (Exp)/Inc Associates & JV Inc Net Interest (Exp)/Inc (1.9) (13.6) (18.4) (21.7) (21.4) Exceptional Gain/(Loss) 9.70 (4.2) Pre-tax Profit Tax (93.3) (84.5) (89.7) (96.8) (106) Minority Interest Preference Dividend Net Profit Net Profit before Except EBITDA Growth Revenue Gth (%) EBITDA Gth (%) 1.1 (8.0) Opg Profit Gth (%) 0.0 (17.0) (3.0) Net Profit Gth (Pre-ex) (%) 5.3 (14.3) Margins & Ratio Gross Margins (%) Opg Profit Margin (%) Net Profit Margin (%) ROAE (%) ROA (%) ROCE (%) Div Payout Ratio (%) Net Interest Cover (x) Expect operating margins to improve from restructuring of non-profitable stores. Source: Company, DBS Bank Page 6

7 Quarterly / Interim Income Statement (US$m) FY Dec 1H2014 2H2014 1H2015 2H2015 1H2016 Revenue 5,299 5,709 5,593 5,544 5,562 Cost of Goods Sold (3,722) (3,996) (3,962) (3,891) (3,914) Gross Profit 1,578 1,714 1,632 1,653 1,648 Other Oper. (Exp)/Inc (1,332) (1,435) (1,431) (1,419) (1,451) Operating Profit Other Non Opg (Exp)/Inc Associates & JV Inc Net Interest (Exp)/Inc 1.50 (3.4) (5.6) (8.0) (9.0) Exceptional Gain/(Loss) 10.4 (0.7) 0.0 (4.2) 0.0 Pre-tax Profit Tax (43.9) (49.4) (39.5) (45.0) (37.4) Minority Interest (1.2) Net Profit Net profit bef Except EBITDA Growth Revenue Gth (%) (2.0) (0.9) 0.3 EBITDA Gth (%) (14.5) 22.3 (28.8) 24.0 (15.5) Opg Profit Gth (%) (8.3) 13.7 (28.1) 17.0 (16.1) Net Profit Gth (%) (14.0) 17.8 (30.5) 21.3 (14.2) Margins Gross Margins (%) Opg Profit Margins (%) Net Profit Margins (%) Growth y-o-y boosted by Yonghui Growth driven by SSSG on lower store count Balance Sheet (US$m) FY Dec 2014A 2015A 2016F 2017F 2018F Net Fixed Assets 1,291 1,141 1,237 1,307 1,377 Invts in Associates & JVs 388 1,292 1,612 1,744 1,895 Other LT Assets Cash & ST Invts Inventory 1, ,024 1,081 Debtors Other Current Assets Total Assets 4,316 4,821 5,351 5,669 6,018 Dragged by Health and Beauty. Food and Home furnishing margins improved. ST Debt Creditor 2,413 2,355 2,375 2,503 2,643 Other Current Liab LT Debt Other LT Liabilities Shareholder s Equity 1,429 1,376 1,545 1,736 1,943 Minority Interests Total Cap. & Liab. 4,316 4,821 5,351 5,669 6,018 Non-Cash Wkg. Capital (1,204) (1,239) (1,242) (1,322) (1,400) Net Cash/(Debt) 475 (482) (721) (649) (582) Debtors Turn (avg days) Creditors Turn (avg days) Inventory Turn (avg days) Asset Turnover (x) Current Ratio (x) Quick Ratio (x) Net Debt/Equity (X) CASH Net Debt/Equity ex MI (X) CASH Capex to Debt (%) Z-Score (X) Includes drawdown of US$500m refinancing loan and US$190m to be drawn down for additional investment in Yonghui (announced in August 2015). Source: Company, DBS Bank Page 7

8 Cash Flow Statement (US$m) FY Dec 2014A 2015A 2016F 2017F 2018F Pre-Tax Profit Dep. & Amort Tax Paid (93.8) (90.2) (56.0) (89.7) (96.8) Assoc. & JV Inc/(loss) (68.9) (85.0) (120) (132) (151) Chg in Wkg.Cap. (17.4) 73.0 (30.6) Other Operating CF Net Operating CF Capital Exp.(net) (270) (259) (301) (307) (319) Other Invts.(net) Invts in Assoc. & JV (91.4) (918) (200) Div from Assoc & JV Other Investing CF (71.3) (189) Net Investing CF (433) (1,365) (501) (307) (319) Div Paid (311) (311) (270) (284) (311) Chg in Gross Debt Capital Issues Other Financing CF (2.5) Net Financing CF (293) (284) (311) Currency Adjustments (5.0) (12.1) Chg in Cash (54.6) (400) Opg CFPS (US cts.) Free CFPS (US cts.) Includes US$190m to be drawn down for additional investment in Yonghui (announced in August 2015). Source: Company, DBS Bank Target Price & Ratings History US$ 2 1 S.No. Date Closing Price Target Price Rating 1: 03 Aug HOLD 2: 10 Aug HOLD 3: 23 Sep BUY 4: 25 Sep BUY 5: 04 Mar BUY 6: 10 Mar BUY Jul-15 Nov-15 Mar-16 Note : Share price and Target price are adjusted for corporate actions. Source: DBS Bank Page 8

9 DBS Bank recommendations are based an Absolute Total Return* Rating system, defined as follows: STRONG BUY (>20% total return over the next 3 months, with identifiable share price catalysts within this time frame) BUY (>15% total return over the next 12 months for small caps, >10% for large caps) HOLD (-10% to +15% total return over the next 12 months for small caps, -10% to +10% for large caps) FULLY VALUED (negative total return i.e. > -10% over the next 12 months) SELL (negative total return of > -20% over the next 3 months, with identifiable catalysts within this time frame) Share price appreciation + dividends GENERAL DISCLOSURE/DISCLAIMER This report is prepared by DBS Bank Ltd. 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