#39 Jerónimo Martins

Unknown retail giant

Jul 08, 2024

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When I was writing my analysis on Dino Polska some time ago, I discovered that Poland's largest retailer is Biedronka, which is actually owned by the Portuguese company Jerónimo Martins. Given the prevalent focus on Dino Polska, I was intrigued to delve deeper into Jerónimo Martins. I hope you find this short format both enjoyable and insightful. While there is much more to discuss about the business, my analysis aims to focus on the core aspects and the key investment thesis.

About Jeronimo Martins

Jerónimo Martins is a major player in the food sector, primarily in distribution, with strong market positions in Poland, Portugal and Colombia. The Group employs 134,379 people and had a market capitalization of 14.5 billion euros on the Euronext Lisbon stock exchange at the end of 2023.

Jerónimo Martins operates a diverse range of key operations across various countries, each with a specific focus and strategic approach.

In Poland, Biedronka dominates the food retail market by emphasizing quality, store environment, and competitive pricing, which has allowed it to continuously grow its market share. Hebe, specializing in health and beauty retail, employs a strong omnichannel strategy and has expanded internationally with new stores in Czechia, bolstering its e-commerce efforts.

In Portugal, Pingo Doce stands as a leading supermarket chain, offering a wide array of services including restaurants, para-pharmacies, petrol stations, and clothing stores. Recheio operates as a cash & carry chain, with a robust food service operation and a network of traditional retail partners under the Amanhecer banner.

In Colombia, Ara focuses on proximity food stores located in residential areas, known for their competitive pricing and promotional opportunities. Bodega del Canasto operates mini cash & carry stores targeting traditional B2B markets with customized brands.

The Agro-Alimentar Division (JMA) is dedicated to ensuring the supply of strategic products and maintaining quality differentiation across various sectors such as dairy, livestock farming, aquaculture, and fruit and vegetable production.

The largest and most significant operation within Jerónimo Martins is undoubtedly Biedronka, the market leader in Poland. Biedronka operates approximately 3,596 stores, encompassing a total sales area of 2.6 million square meters. As detailed in the Q1 report, Biedronka's expansive network highlights its dominant presence in the Polish market. You can find the comprehensive numbers of the total store network in the overview provided.

With a share of over 70% in 2023, Biedronka is the largest contributor to the net sales of the Jerónimo Martins group. This share has been increasing over the past few years, underscoring Biedronka's vital role within the company. The fastest-growing business is Ara, which currently accounts for 8% of total sales, up from 5.3% in 2021—an impressive increase in just two years. Although still relatively small, Hebe is also experiencing rapid growth, contributing to the diversification and expansion of Jerónimo Martins' market presence.

In terms of EBITDA contribution to the Group, Biedronka stands out as the largest, accounting for 85% of the total. It is also the second most profitable operation within the group, boasting an EBITDA margin of 8.5% in 2023. While Hebe achieved a higher EBITDA margin at 9.1%, its overall contribution to the Group's EBITDA remains relatively small.

Biedronka not only boasts the largest store network and the highest share of net sales within the Group but also leads in sales per square meter. Following Biedronka, the Colombian operation Ara ranks second in this important metric. Additionally, Hebe is rapidly improving its sales per square meter, demonstrating significant growth in this crucial area.

Financial key metrics

These tables, calculated using my Excel valuation model, provide a comprehensive overview of the company's most important financial key metrics. I'll leave them here without further comment, as I believe the numbers speak for themselves.

Valuation of Jeronimo Martins stock

Base Case Assumptions

In my valuation model, I assume that Jerónimo Martins will continue to invest in Biedronka to strengthen its market presence in Poland, increase like-for-like sales, and maintain its market-leading position. The international expansion of Biedronka will also commence, though it is expected to take time and will not be a significant cash generator initially. Hebe is projected to continue its robust growth, though its contribution to the overall group performance will remain relatively small. Similarly, Ara in Colombia is expected to grow strongly but will also have a limited impact on the group’s overall performance. For the other businesses, I anticipate growth in line with the general local market development, without any significant positive surprises.

Revenue Growth

In the DCF Model, a five-year detailed planning period is used, projecting a 6.1% Compound Annual Growth Rate (CAGR). This trajectory anticipates Jeronimo Martins revenue to reach 42.9 billion in FY 2029.

EBIT Margin

In the last twelve months, Jeronimo Martins EBIT margin was 3.9%. For the DCF Model, I have normalized this margin to an average of 3.8%.

Normalized Net Income Margin

Based on the EBIT margin, the Last Twelve Months (LTM) Normalized Net Income margin stands at 2.2%. Moving forward, it is estimated to stabilize around 2.4%.

Free Cash Flow

My Free Cash Flow assumptions include a Net Capex ratio as a percentage of sales (Net Capex = Capex - Depreciation) of 0.5%, reflecting the average of recent years. Working Capital, expressed as a percentage of sales, is determined by the average Working Capital over the past years, calculated at 15.8% of net sales. The Free Cash Flow estimation does not adjust for stock-based compensation.

WACC

The Weighted Average Cost of Capital (WACC) is set at 8.0%.

Results

Based on these assumptions, Jeronimo Martins equity value is estimated at €17.6 billion. Dividing this by the current number of shares, we derive a fair value per share of €28. In comparison to its latest stock price of €19 the stock appears still significantly undervalued.

Adjusting the WACC to 8.5% would lower the fair value per share to €26, while a decrease in WACC to 7.5% would increase it to €30 per share.

Scenarios

Bull Case Scenario:
In an optimistic scenario, assuming a CAGR for revenue of 8.1%, an EBIT Margin of 4.1%, and a normalized net income margin of 2.9%, the fair value per share would be €30. In this scenario the stock appears to be also undervalued.

Bear Case Scenario:
Conversely, in a pessimistic scenario with a CAGR for revenue of 3.9%, an EBIT Margin of 3.6%, and a normalized net income margin of 1.9%, the fair value per share would be €25. In this scenario the stock also appears to be undervalued.

P/E and EV/EBIT

To further validate the valuation estimate, let's examine my preferred metrics: forward EV/EBIT and P/E. Considering the five-year historical averages of 14.77x for EV/EBIT and 20.9x for P/E, the current valuation of 11.26x EV/EBIT and 14.56x P/E indicates a potential undervaluation, as suggested by the DCF valuation. Although I typically exercise caution when comparing historical averages to forward metrics, in this instance, I believe the comparison is meaningful and supports the undervaluation thesis.

Looking at a longer time horizon, the stock also appears undervalued. Given my projections for the company's future growth, a valuation of 11x EV/EBIT seems reasonable and suggests the stock is attractively priced based on these assumptions.

Why invest into Jeronimo Martins?

Biedronka is the largest retailer in Poland, thriving within an attractive and growing economy. In 2024, Biedronka will commence its international expansion into Slovakia, marking a significant milestone for the company. Additionally, Biedronka is enhancing its product range by increasing its assortment of private label products and undertaking store remodels to further improve the customer experience. Biedronka increased its sales in Q1 2024 by 18.8%.

Hebe is experiencing robust growth in e-commerce and is expanding internationally into the Czech Republic and Slovakia, broadening its market presence and customer base. It grew sales in Q1 2024 by 39.2%.

Pingo Doce stands as the second-largest retailer in Portugal, consistently maintaining a strong market position. Meanwhile, Ara is a rapidly growing business in Colombia. Despite the inherent challenges of the Colombian market, Ara is excelling by effectively meeting the daily needs of the population, showcasing its strong growth trajectory (+43.9% in Q1 2024) and market adaptation.

The stock appears to be attractively valued with a substantial margin of safety. I believe that food retailing, at first glance, is a straightforward business, and Jerónimo Martins’ management excels by keeping it uncomplicated. Their strategy focuses on delivering a great customer experience at reasonable prices, which aligns well with their operational strengths and market demands.

Why not invest?

The food retail sector in Europe is highly competitive, with consumers being particularly sensitive to food prices. The challenging economic developments of recent years have further intensified this competition, exerting significant pressure on profit margins and impacting the industry's overall performance.

Conclusion

I believe that Jerónimo Martins presents a compelling value opportunity. Its leading position in the Polish food retail market through Biedronka, along with its other growing businesses, creates a strong investment case. The stock appears to be undervalued, and the management's straightforward yet effective strategy to enhance and expand the business is reassuring. The financial key metrics, particularly the Return on Capital, look promising and robust. I plan to open a position in the coming weeks, but due to the limited liquidity of the stock, I may proceed with a cautious approach.

In one of my next articles I am going to compare Biedronka to Dino Polska. In one of my next articles I will compare Biedronka with Dino Polska.

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Disclaimer: The information provided in this publication is for educational and informational purposes only and does not constitute financial advice. The content is solely reflective of my personal views and opinions based on my research and is not intended to be used as a basis for investment decisions. While every effort is made to ensure that the information is accurate and up-to-date, the writer makes no representations as to the accuracy, completeness, suitability, or validity of any information in this post and will not be liable for any errors, omissions, or delays in this information or any losses, injuries, or damages arising from its display or use. All readers are advised to conduct their own independent research or consult a professional financial advisor before making any investment decisions. The author is investing in this stock.