Dollarama Inc. Q4 F2015 Results. Solid results supported by sales growth, margin expansion and capital return HIGHLIGHTS. The NBF Daily Bulletin

Transcription

1 Title: Dollarama Inc. - (T) $68.10 Price: $68.10 StockRating: Outperform TargetPrice: $74.00 Headline: Solid results supported by sales growth, margin expansion and (T) $68.10 Stock Rating: Outperform (Unchanged) Target: $74.00 (Was $65.00) Risk Rating: Below Average (Unchanged) Est. Total Return 9.2% Stock Data: 52-week High-Low (Canada) Bloomberg $ $41.90 CN Forecasts : Fiscal year-end: January F2015A F2016E F2017E Revenue (mln) $ $ $ EBITDA (mln) $460.9 $517.9 $577.6 EBIT (mln) $422.6 $472.4 $524.6 Net Income (mln) $295.4 $331.4 $362.6 Diluted EPS $2.21 $2.57 $2.94 Dividends/Share $0.31 $0.35 $0.40 P/E 30.8x 26.5x 23.2x EV/EBITDA 20.6x 18.4x 16.5x Quarterly EPS: F2015A F2016E F2017E Q1 $0.39 $0.46 $0.52 Q2 $0.51 $0.60 $0.69 Q3 $0.55 $0.64 $0.72 Q4 $0.76 $0.88 $1.00 Financial Data: Shares Outstanding (diluted, mln) Market Capitalization (mln) $ Dividend Yield 0.5% Net Debt (mln) $524.3 Net Debt/Total Capitalization (B/S) 41.5% Book Value per Share $5.61 Price/Book Ratio 12.1x Industry Rating: Underweight (NBF Economics & Strategy Group) March 25, 2015 Dollarama Inc. Q4 F2015 Results The NBF Daily Bulletin Merchandising and Consumer Products Solid results supported by sales growth, margin expansion and capital return HIGHLIGHTS Q4/F15 EPS was $0.76 vs. NBF at $0.72 and consensus at $0.75; last year was $0.59 (1) Dollarama delivered a solid quarter, supported by strong sales growth, margin expansion, reasonably good cost control and increased capital return. The EPS beat vs. NBF was largely due to a higher than expected gross margin rate (added $0.02 to EPS), a lower than expected SG&A rate (added $0.01) and a lower than expected tax rate (added $0.01). (2) Same store sales growth (sssg) was 8.5%, in line with NBF; last year was 1.1%. Basket growth was 4.7% vs. NBF at 4.0%; transaction growth was 3.6% vs. NBF at 4.5%. As speculated in our Q4/F15 preview note, Dollarama benefited from favourable weather in December 2014 relative to the y/y comp. Revenue was $669 mln vs. NBF at $674 mln and cons. at $685 mln; last year was $582 mln. (3) EBITDA was $151 mln vs. NBF at $145 mln and cons. at $148 mln; last year was $131 mln. (4) The company also increased its quarterly dividend to $0.09/share from $0.08/share, in line with NBF expectation. (5) opened 27 net new stores during the quarter vs. our forecast of 26 stores. (6) Management indicated plans to open net new stores in F2016, with 60 net new stores thereafter. Store growth runway extended On the conference call, management indicated long-term capacity for 1,400 stores in Canada, from 1,200 previously. This announcement extends the growth runway for the company. Management s indications suggest that it will take seven years to hit store saturation; however, our forecasts reflect six years as we do not envision Dollarama meaningfully slowing new store growth below the current level of ~80 stores/year. Thoughts on currency (1) Management indicated that the company experienced challenges related to unfavourable currency movements during Q4/F15. In our view, the net impact was not meaningful because of hedging practices and offer adjustments (including select price increases). We estimate that the Q4/F15 gross margin rate, excluding real estate, declined by only 16 bps y/y (an improved trend relative to prior quarters in F2015). (2) Over the next several quarters, we believe that Dollarama will face continued currency headwinds, albeit moderate. Our forecasts reflect only 10 bps of gross margin erosion in F2016. Our analysis of historical gross margin rates relative to currency movements suggests that the company has generally been successful in protecting against meaningful deterioration in gross margin rates. Maintain Outperform rating; price target is $74 from $65 We value Dollarama at 25.0x our F2017 EPS estimate. Company Profile: Dollarama is a Canadian retailer operating in the high-value, small-format retail segment. The company was founded in 1992 by its current Chair of the Board and Chief Executive Officer, Larry Rossy. Dollarama sells a variety of general merchandise and consumable products. Vishal Shreedhar - (416) vishal.shreedhar@nbc.ca Stock Performance Price ($/share) Volume (mlns) Associate: Ryan Li (416) ryan.li@nbc.ca Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 Source: Thomson, NBF

2 Page 2 Q4 F2015 Results: Solid results supported by sales growth, margin expansion and capital return Quarter Summary Q4/F15 EPS was $0.76, above NBF at $0.72 and consensus at $0.75; last year was $0.59. The EPS beat versus NBF was largely due to a higher than expected gross margin rate (added $0.02 to EPS), a lower than expected SG&A rate (added $0.01 to EPS) and a lower than expected effective tax rate (added $0.01 to EPS). We were expecting sharper deterioration of the gross margin rate as a part of management s plan to invest in pricing. Management reiterated its intent to maintain a gross margin rate between 36% and 37%. Revenue was $669 million versus NBF at $674 million and consensus at $685 million; last year was $582 million. Same store sales growth (sssg) was 8.5%, in line with NBF expectations; last year was 1.1%. The sssg beat relative to NBF was primarily due to better than expected basket growth of 4.7% versus NBF at 4.0%; traffic growth of 3.6% was lower than NBF at 4.5%. EBITDA was $151 million versus NBF at $145 million; last year was $131 million. The company increased the quarterly dividend to $0.09/share from $0.08/share, in line with our expectation. Further details on the quarter are available in Figure 6. Key Highlights: Gross margin and F/X: A key concern for investors is the potential for profit deterioration associated with recent foreign exchange movements. While all of Dollarama s sales are in Canadian dollars, the majority of merchandise is purchased from overseas suppliers using U.S. currency. As a result, weakness in the U.S. dollar versus the Chinese renminbi could negatively impact margins, all else equal. In addition, weakness in the Canadian dollar versus the U.S. dollar could further exacerbate a negative impact on profitability. In Dollarama s disclosure documents, it states that fluctuations in foreign exchange could have a material impact on merchandise cost. Dollarama employs Canadian dollar versus U.S. dollar currency hedging but does not hedge its exposure to fluctuations in the Chinese renminbi versus the U.S. dollar. o Management indicated that the company experienced challenges related to unfavourable currency movements in Q4/F15; however, in our view, the net impact was not meaningful because of hedging practices and offer adjustments (including select price increase). We estimate that the Q4/F15 gross margin rate, excluding real estate, declined by only 16 bps y/y (an improved trend relative to prior quarters in F2015). o Over the next several quarters, we believe that Dollarama will face continued, albeit manageable, currency headwinds. Our forecasts reflect 10 bps of gross margin erosion in F2016. Our analysis of historical gross margin rates relative to currency movements suggests that the company has generally been successful in protecting against meaningful deterioration in gross margin rates (Figure 3) Management indicated on the conference call that further weakening of the Canadian dollar could require the company to (sooner than planned) pursue product substitutions, move more products to higher price points and/or introduce new (higher) price points.

3 Page 3 Thoughts on valuation: Dollarama trades at 18.4x NTM EBITDA and 26.5x NTM EPS. This is the highest valuation level in our coverage universe. Not surprisingly, valuation is a key concern for many investors. We think there is a rough precedent for Dollarama s valuation in the Canadian retail space. We reference Shoppers Drug Mart s performance during ( s strongest time range, in our view) Dollarama s recent performance has been slightly stronger. We highlight three key conclusions (Figure 4): o Despite challenging market conditions, Dollarama s sales growth has been stronger than s during the period of comparison. Dollarama s total sales growth has averaged 13.2% versus at 9.4% during the period of comparison. Also, Dollarama has delivered average sssg of 5.3% (simple average) versus at 6.4%. We project low-to-mid single-digit sssg for Dollarama over the next three years. o We estimate that Dollarama s square footage has grown at a CAGR of ~11.0% over the period of comparison, while s square footage growth averaged ~10.6%. We project high single-digit real estate growth for Dollarama over the next three years. o Dollarama s ROIC is superior to s ROIC, and has exhibited an improving trend. We calculate F2015 ROIC of 16.1% versus s peak ROIC of 10.5% during the period of comparison. We believe that Dollarama has opportunity to further improve ROIC; for example, we forecast F2016 ROIC of 16.7%. Increasing its runway for new store growth: On the conference call, management increased its long-term estimate for Canadian stores to 1,400 from 1,200 previously. The forecast was based on an updated market analysis taking into account the retail competitive landscape, rates of per capita store penetration and performance of comparable/new stores. o Management s indications suggest that it will take seven years to hit store saturation (~70-80 stores in F2016, followed by ~60 per year thereafter); however, our forecasts reflect six years to hit 1,400 stores as we do not envision the company meaningfully slowing new store growth below the current level of ~80 stores/year. o o While there is no impact on our near-term estimates related to the higher store ceiling, our target for Dollarama increases, in part, as a result of a longer high growth period for the company. During the quarter, management also indicated that the F2016 SG&A rate would decline modestly due to ongoing efficiency initiatives and that F2016 capital expenditures would be ~$85-$100 million. Returning capital: Dollarama increased its quarterly dividend to $0.09/share from $0.08/share previously, in line with NBF expectation. In addition, the company repurchased ~3.4 million shares as part of its 2014/15 NCIB which allows for the repurchase of 4.7 million shares through to June 16, During F2015, Dollarama returned capital to shareholders via ~$42 million in dividends and ~$424 million in net share repurchases.

4 Page 4 Rating and recommendation We reiterate our Outperform rating. Our price target is $74 from $65 largely reflecting a slight increase in our estimates and an increase in our valuation multiple to 25.0x our F2017 EPS from 23.0x previously. Dollarama currently trades at 26.5x our NTM EPS versus its historical average of 19.2x. Our increase in the multiple is also supported, in part, by management s new long-term store guidance which indicates a store ceiling of 1,400 stores from 1,200 previously. In our view, Dollarama is a well-managed retailer as demonstrated by its strong growth and high ROIC, which have been realized despite challenging market conditions. We believe that Dollarama has potential to deliver above-average growth over the next three to five years supported by same store sales growth, network expansion and increased operational efficiency. Furthermore, we believe that the Canadian dollar store market has potential for growth given a relatively low store penetration rate and increasing demand for value from consumers. Charts and Tables Figure 1: Estimate Revisions We made slight revisions to our estimates, largely to reflect changes in our sales and SG&A expectations. F2016 F2017 Before After Before After Revenue EBITDA EPS $2.49 $2.57 $2.81 $2.94 Quarterly EPS Summary ($) Q1 $0.45 $0.46 $0.50 $0.52 Q2 $0.58 $0.60 $0.66 $0.69 Q3 $0.63 $0.64 $0.71 $0.72 Q4 $0.83 $0.88 $0.94 $1.00 Source: Company Reports, NBF Figure 2: Credit Metrics Dollarama - Debt Metrics: Q1/F15 Q2/F15 Q3/F15 Q4/F15 F2016 F2017 Net Debt/EBITDA 1.2x 1.3x 1.3x 1.1x 1.3x 1.4x Adj. Net Debt/EBITDAR 2.8x 2.9x 2.9x 2.7x 2.8x 2.9x Net Debt/Capital 40.3% 45.1% 45.6% 41.5% 48.7% 56.5% EBITDA/Interest 29.8x 25.6x 23.4x 23.1x 25.5x 19.3x Note: Leases are capitalized at 8.0x. Source: Company Reports, NBF

5 Page 5 Figure 3: F/X exposure to the CNY and USD (1) A key concern for investors is the potential for profit deterioration associated with recent foreign exchange movements. While all of Dollarama s sales are in Canadian dollars, the majority of merchandise is purchased from overseas suppliers using U.S. currency. As a result, weakness in the U.S. dollar versus the Chinese renminbi could negatively impact margins, all else equal. In addition, weakness in the Canadian dollar versus the U.S. dollar could further exacerbate a negative impact on profitability. (2) The charts below show that Dollarama s gross margins have historically remained stable despite unfavourable currency movement. We believe that Dollarama s multi-price point strategy gives management room to adjust prices, if required. In addition, Dollarama s hedging program provides the buyers with sufficient time to adjust purchasing strategies. Change Y/Y: Dollarama's Gross Margin % vs. CAD to CNY F/X 3 6.0% 2 4.0% 1 2.0% -1-2 Mar-08 Jul-08 Nov-08 Mar-09 Jul-09 Nov-09 Mar-10 Jul-10 Nov-10 Mar-11 Jul-11 Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13 Mar-14 Jul-14 Nov-14 Mar % -4.0% % CAD to CNY % Change y/y [LHS] Dollarama Gross Margin % Δ y/y [RHS] Change Y/Y: Dollarama's Gross Margin % vs. CAD to USD F/X 3 6.0% 2 4.0% 1 2.0% -1-2 Mar-08 Jul-08 Nov-08 Mar-09 Jul-09 Nov-09 Mar-10 Jul-10 Nov-10 Mar-11 Jul-11 Nov-11 Mar-12 Jul-12 Nov-12 Mar-13 Jul-13 Nov-13 Mar-14 Jul-14 Nov-14 Mar % -4.0% % CAD to USD % Change y/y [LHS] Dollarama Gross Margin % Δ y/y [RHS] Source: Company Reports, Bloomberg, Thomson NBF

6 Page 6 Figure 4: Comparing Performance Dollarama with Shoppers Drug Mart Valuation is a key concern for many Dollarama investors. We think there is a rough precedent for Dollarama s valuation in the Canadian retail space. We reference Shoppers Drug Mart s performance during ( s strongest time range, in our view). We believe that Dollarama s recent performance has been slightly stronger and valuation trades at a slight premium to s historical average 22x NTM P/E. Total Sales Growth y/y Same Store Sales Growth y/y 2 9.0% 16.0% 16.0% 12.0% 12.9% 11.1% 12.9% 7.0% 6.9% 5.4% 6.5% 6.3% 5.8% 6.5% 5.5% 8.0% 11.4% 8.4% 8.9% 8.9% 5.0% 3.8% 4.0% F F F F % F F F F Total Stores Square Footage Growth y/y Return on Invested Capital Adjusted for Rent Expense 13.0% 11.0% 9.0% 8.6% 12.6% 10.9% 11.1% 10.2% 10.6% 9.3% % % 10.2% 14.4% 15.0% 9.6% 10.1% 16.1% 10.5% 7.0% 8.3% 5.0% 5.0% F F F F F F F F Forward P/E Forward EV/EBITDA 28.0x 24.0x 20.0x Average: 22.0x 20.0x 16.0x Average: 12.9x 16.0x 12.0x Average: 20.2x 12.0x 8.0x Average: 12.0x 8.0x 4.0x 4.0x 0.0x 04/ / / / / / / / x 04/ / / / / / / /2006 Note: ROIC = (EBIT + Rent) x (1-Tax) / (Total Assets (Total Current Liabilities - Current Debt + Cash) + Rent x 8). Source: Company Reports, Bloomberg, Thomson, NBF Figure 5: Same Store Sales Growth Composition - Basket Growth and Transaction Growth Q4/F15 sssg was 8.5%, in line with NBF expectation; last year was 1.1%. Basket Growth and Transaction Growth 1 8.0% 6.0% 4.0% 2.0% Q4/F10 Q2/F11 Q4/F11 Q2/F12 Q4/F12 Q2/F13 Q4/F13 Q2/F14 Q4/F14 Q2/F15 Q4/F15-2.0% -4.0% Basket Growth Transaction Growth Same Store Sales Growth (sssg) Source: Company Reports, NBF

7 Page 7 Figure 6: Q4 F2015 Financial Summary Q4 Q4 F2015 F2014A Cons. NBF Est. Act. Comments Same Store Sales Growth 1.1% 8.5% 8.5% Same store sales growth of 8.5% y/y was driven by average basket size growth of 4.7% y/y (NBF was 4.0% y/y) and transaction growth of 3.6% y/y (NBF was 4.5% y/y). The penetration rate of items higher than $1 increased to 71.5% of sales from 61.0% y/y. Revenue Revenue growth of 14.9% y/y was driven by an increase in the number of stores (81 net new stores y/y) and positive sssg. Dollarama added 27 net new stores in the quarter versus NBF expectation of 26 net new stores. Cost of Sales Gross Margin The gross margin rate was 38.8%, higher by 39 bps y/y, largely due to the positive scaling impact of higher sales (vs. the occupancy costs) and slightly lower logistics costs due to the results of operational improvements. The planned absorption of product cost increases related to a depreciating Canadian dollar (vs. U.S. dollar) served as a partial negative offset. SG&A The SG&A rate was 16.1%, higher by 23 bps y/y mostly due to the timing of certain operating expenses incurred, offsetting the benefits of continued labour productivity improvements. EBITDA EBITDA grew by 15.8% y/y mostly due to higher sales and a higher gross margin rate; a higher y/y SG&A rate was a partial negative offset. Depreciation and Amortization D&A decreased by 20.7% y/y mostly as a result of a change in accounting policy related to an increase in the estimated useful life of leasehold improvements and store/warehouse equipment. EBIT Interest Expense Net financing costs increased y/y due to higher borrowing. EBT Tax The effective tax rate was 26.1% vs. 27.1% expected. Net Income EPS $0.59 $0.75 $0.72 $0.76 Note: Income statement data (except per share data) is denoted in $ millions. Source: Company Reports, Bloomberg, NBF

8 Page 8 DILOSURES: Ratings And What They Mean: PRIMARY STOCK RATING: NBF has a three-tiered rating system that is relative to the coverage universe of the particular analyst. Here is a brief description of each: Outperform The stock is expected to outperform the analyst s coverage universe over the next 12 months; Sector Perform The stock is projected to perform in line with the sector over the next 12 months; Underperform The stock is expected to underperform the sector over the next 12 months. SECONDARY STOCK RATING: Under Review Our analyst has withdrawn the rating because of insufficient information and is awaiting more information and/or clarification; Tender Our analyst is recommending that investors tender to a specific offering for the company s stock; Restricted Because of ongoing investment banking transactions or because of other circumstances, NBF policy and/or laws or regulations preclude our analyst from rating a company s stock. INDUSTRY RATING: NBF has an Industry Weighting system that reflects the view of our Economics & Strategy Group, using its sector rotation strategy. The three-tiered system rates industries as Overweight, Market Weight and Underweight, depending on the sector s projected performance against broader market averages over the next 12 months. RISK RATING: NBF utilizes a four-tiered risk rating system, Below Average, Average, Above Average and Speculative. The system attempts to evaluate risk against the overall market. In addition to sector-specific criteria, analysts also utilize quantitative and qualitative criteria in choosing a rating. The criteria include predictability of financial results, share price volatility, credit ratings, share liquidity and balance sheet quality. General National Bank Financial (NBF) is an indirect wholly owned subsidiary of National Bank of Canada. National Bank of Canada is a public company listed on Canadian stock exchanges. The particulars contained herein were obtained from sources which we believe to be reliable but are not guaranteed by us and may be incomplete. The opinions expressed are based upon our analysis and interpretation of these particulars and are not to be construed as a solicitation or offer to buy or sell the securities mentioned herein. Research Analysts The Research Analyst(s) who prepare these reports certify that their respective report accurately reflects his or her personal opinion and that no part of his/her compensation was, is, or will be directly or indirectly related to the specific recommendations or views as to the securities or companies. NBF compensates its Research Analysts from a variety of sources. The Research Department is a cost centre and is funded by the business activities of NBF including, Institutional Equity Sales and Trading, Retail Sales, the correspondent clearing business, and Corporate and Investment Banking. Since the revenues from these businesses vary, the funds for research compensation vary. No one business line has a greater influence than any other for Research Analyst compensation. Canadian Residents In respect of the distribution of this report in Canada, NBF accepts responsibility for its contents. To make further inquiry related to this report, Canadian residents should contact their NBF professional representative. To effect any transaction, Canadian residents should contact their NBF Investment advisor. U.S. Residents With respect to the distribution of this report in the United States, National Bank of Canada Financial Inc. (NBCFI) is regulated by the Financial Industry Regulatory Authority (FINRA) and a member of the Securities Investor Protection Corporation (SIPC). This report has been prepared in whole or in part by, research analysts employed by non-us affiliates of NBCFI that are not registered as broker/dealers in the US. These non-us research analysts are not registered as associated persons of NBCFI and are not licensed or qualified as research analysts with FINRA or any other US regulatory authority and, accordingly, may not be subject (among other things) to FINRA restrictions regarding communications by a research analyst with the subject company, public appearances by research analysts and trading securities held a research analyst account. All of the views expressed in this research report accurately reflect the research analysts personal views regarding any and all of the subject securities or issuers. No part of the analysts compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report. The analyst responsible for the production of this report certifies that the views expressed herein reflect his or her accurate personal and technical judgment at the moment of publication. Because the views of analysts may differ, members of the National Bank Financial Group may have or may in the future issue reports that are inconsistent with this report, or that reach conclusions different from those in this report. To make further inquiry related to this report, United States residents should contact their NBCFI registered representative. UK Residents In respect of the distribution of this report to UK residents, National Bank Financial Inc. has approved the contents (including, where necessary, for the purposes of Section 21(1) of the Financial Services and Markets Act 2000). National Bank Financial Inc. and/or its parent and/or any companies within or affiliates of the National Bank of Canada group and/or any of their directors, officers and employees may have or may have had interests or long or short positions in, and may at any time make purchases and/or sales as principal or agent, or may act or may have acted as market maker in the relevant securities or related financial instruments discussed in this report, or may act or have acted as investment and/or commercial banker with respect thereto. The value of investments can go down as well as up. Past performance will not necessarily be repeated in the future. The investments contained in this report are not available to retail customers. This report does not constitute or form part of any offer for sale or subscription of or solicitation of any offer to buy or subscribe for the securities described herein nor shall it or any part of it form the basis of or be relied on in connection with any contract or commitment whatsoever. This information is only for distribution to Eligible Counterparties and Professional Clients in the United Kingdom within the meaning of the rules of the Financial Conduct Authority. National Bank Financial Inc. is authorised and regulated by the Financial Conduct Authority and has its registered office at 71 Fenchurch Street, London, EC3M 4HD.. National Bank Financial Inc. is not authorised by the Prudential Regulation Authority and the Financial Conduct Authority to accept deposits in the United Kingdom. Copyright This report may not be reproduced in whole or in part, or further distributed or published or referred to in any manner whatsoever, nor may the information, opinions or conclusions contained in it be referred to without in each case the prior express written consent of National Bank Financial. NBF is a member of the Canadian Investor Protection Fund. NBF quarterly ratings summary and the total ratings by month can be found on our website under Research and Analysis/Equities/About NBF Research/Quarterly Ratings Summary (link attached) The NBF Research Dissemination Policy is available on our website under Legal/Research Policy (link attached) Click on the following link to see the company specific disclosures Click on the following link to see National Bank Financial Markets Statement of Policies If a company specific disclosure is not found herein for a listed company, NBF at this time does not provide research coverage or stock rating for the company in question.

9 Page 9 Additional company related disclosures for Dollarama Inc. 2 National Bank Financial Inc. has acted as an underwriter with respect to this issuer within the past 12 months. 3 National Bank Financial Inc. has provided investment banking services for this issuer within the past 12 months. 4 National Bank Financial Inc. or an affiliate has managed or co-managed a public offering of securities with respect to this issuer within the past 12 months. 5 National Bank Financial Inc. or an affiliate has received compensation for investment banking services from this issuer within the past 12 months. 6 National Bank Financial Inc. or an affiliate has a non-investment banking services related relationship during the past 12 months. 7 The issuer is a client, or was a client, of National Bank Financial Inc. or an affiliate within the past 12 months.