India Equity Research | Retail Monthly Update

RETAIL
Growing focus on efficiencies April 13, 2009

Pantaloon Retail’s revenues grew 32% in March; SSS growth sustained

Priya Ayyar
Pantaloon Retail’s (PRIL) monthly sales grew 32.4% Y-o-Y against 31% in February.
+91-22-4063 5413
Value retail (VR), at INR 3.5 bn, comprised 62% of total revenues and grew 25%,
priya.ayyar@edelcap.com
while lifestyle retail (LR), at INR 1.2 bn, grew 17% and accounted for 21% of the
revenues. Same store sales (SSS) growth stayed at the same levels as last month
with VR growing at 5%, LR at 4% and Home retail (HR) seeing a 10% dip.

Expansion picks up; addition of 0.2 mn sq ft in March and early April

The company’s space addition has picked up marginally with the addition (in March
and in the first few days of April) of 0.2 mn sq ft as against 0.08 mn sq ft in February.
PRIL added three Big Bazaars (including Food Bazaar), one standalone Food Bazaar,
two Pantaloon outlets, one Fit and Active store in March and two Big Bazaars with food
bazaars in early April. The total addition of space till date stands at 1.6 mn sq ft at the
consolidated level and 1.4 mn sq ft at the standalone level. The company has lowered
its addition plans for FY10 to 2.5mn sq ft from 4 mn sq ft in view of the capital crunch
and slow demand conditions.

Retailers working at enhancing discipline in operations

Retailers, both large and small, have begun taking strategic measures like store
rationalisation, changes in supply chain, consolidation of operations and improvisation
in IT infrastructure with a long-term objective in mind. Despite tight capital conditions,
many retailers have begun investing in infrastructure for the next leg of growth, which
in our opinion, is a positive and will make the business model robust. Retailers are
also looking out for opportunities to partner with foreign players to bring in capital and
best practices.

Key developments in the sector

India’s retail sector will continue to slow down for another 12-18 months
according to KPMG, and a recovery will depend on the government’s efforts to
stimulate the economy.

70% of the respondents (KPMG survey) said lower footfalls have adversely
affected sales, prompting them into better cost management including rental
renegotiation, store rationalisation and manpower resizing.

Major players like Future Group, RPG Retail and Shoppers Stop have kicked
off multiple initiatives like automating processes, working closely with vendors to
bring down waste, implementing automatic just-in-time stock replenishment systems,
and are seeking ways to reduce costs on warehousing and transportation.

Mahindra Retail has launched its "Mom and Me" store, which specializes in
products related to infant and maternity care. The company plans to invest about INR
1 bn to set up the stores of about 5,000 to 10,000 sq ft each.

Arvind Mills is looking to invest INR 3 bn in large format retail centers and INR
1 bn in small stores. It is planning to open 30 large retail centers (Megamart outlets)
and 200 small format stores (Megamart) across 100 cities in the country by 2012.

(The above highlights are based on news articles in the leading dailies)

Edelweiss Research is also available on www.edelresearch.com, Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset. Edelweiss Securities Limited

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PRIL: Sales numbers improve marginally

PRIL revenues in March grew 32%; YTD growth at 34%

Total revenues grew 32% to INR 5.6 bn with VR generating 62% of revenues, LR 21% and
HR the remaining. This is an improvement over the 14.5% growth in December and 23.5%
growth in January. VR grew 25%, LR 17% and HR 72%.

Chart 1: Total revenue growth at 32% Chart 2: VR grows at 25% and LR at 17%
8,500 150 150

6,800 120 120

(INR mn)

5,100 90 90

(%)
(%)
3,400 60 60

1,700 30 30

0 0 0
Mar-07

Mar-08

Mar-09
Dec-06

Dec-07

Dec-08
Jun-06

Jun-07

Jun-08
Sep-06

Sep-07

Sep-08

Dec-06

Dec-07

Dec-08
Sep-06

Sep-07

Sep-08
Mar-07

Mar-08

Mar-09
Jun-06

Jun-07

Jun-08
Total Total Revenue Growth VR % Y-o-Y LR % Y-o-Y
   
Source: Company reports, Edelweiss research

SSS growth numbers at February levels

SSS growth stayed at the February levels at 5.3% in VR and 4.3% in LR. HR, however,
continued with negative SSS at 10%. This is an improvement over the negative SSS growth
seen across all segments in December. However, the growth numbers for VR are lower than
the YTD growth of 7.2% and the growth in LR has dipped from the January levels. The YTD
growth in LR stands at 5.5% and is marginally negative for HR.

Chart 3: SSS improve to 5% in VR Chart 4: LR SSS fluctuate due to promotions

60.0% 42.0%

40.0% 28.0%

20.0% 14.0%

0.0% 0.0%

-20.0% -14.0%

-40.0% -28.0%
Mar-07

Mar-08

Mar-09
Dec-06

Dec-07

Dec-08
Sep-06

Sep-07

Sep-08
Jun-06

Jun-07

Jun-08
Mar-07

Mar-08

Mar-09
Dec-06

Dec-07

Dec-08
Jun-06

Jun-07

Jun-08
Sep-06

Sep-07

Sep-08

    
Source: Company reports, Edelweiss research

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Space addition of 0.2 mn sq ft in March and early April

The company’s space addition has slowed down from the past year levels. The addition in
March and in the first few days of April (0.2 mn sq ft) is, however, better than that in
February (0.08 mn sq ft). PRIL added three Big Bazaars (including Food Bazaar), one
standalone Food Bazaar, two Pantaloon outlets, one Fit and Active store in March and two Big
Bazaars with food bazaars in early April.

The total addition of space till date stands at 1.6 mn sq ft at the consolidated level and 1.4
mn sq ft at the standalone level. The company has lowered its addition plans for FY10 in view
of the capital crunch.

Chart 5: Space addition improves marginally

500 11.5

400 11.0
('000 sq ft)

(Mn sq ft)
300 10.5

200 10.0

100 9.5

0 9.0
July Aug Sept Oct Nov Dec Jan Feb Mar

Consolidated Standalone Total space

Source: Company, Edelweiss research

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Improving efficiency in operations a key focus area

With growing liquidity constraints, debt de-rating and capital scarcity, retailers have begun
taking strategic measures like store rationalisation, changes in supply chain, consolidation of
operations and improvisation in IT infrastructure. These steps, while helping scarce capital
management, also bode well in terms of long term sustainability. Investment in infrastructure
for the next leg of growth has gradually begun with investment in vendor development, IT
systems, supply chain and distribution set ups. Retailers are also looking out for opportunities
to partner with foreign players to bring in capital and best practices.

Efforts to control fixed costs at the forefront

Steps ranging from procurement reassessment, rental renegotiation, salary cuts and
moderation of variable payments to employees and senior management, and curtailment of
office administrative expenses and selling expenses are being undertaken to cut costs. The
primary objective is to ensure that the slower footfalls do not dent the profitability of the
retail model.

Efforts are rampant to minimize the impact of largely fixed costs in a slower demand scenario.
Industry experts believe that retailers can reduce costs in the range of 15-20% by
rationalizing real estate portfolios, pruning store sizes to enhance the productivity and
implementing effective supply chain management.

Study of formats brings out inefficiencies

In a review of the viability of various formats, Retailer Association of India has evaluated the
key formats like convenience, department stores, hypermarkets, fashion and lifestyle brands
and jewellery. We have focused on the food and grocery format here as we believe that in
times of slower discretionary spend this format will be insulated to a large extent. The
biggest area of expenditure for any retailer is real estate cost, followed by the cost of
manpower and sales or ad expenses. Specifically for the convenience format, the high share
of dump and shrinkage is a cause of concern.

Table 1: Store performance chart with key expenses- India retail report
Convenience Fashion
stores Departmental Hypermarket and lifestyle Jewellery
% of revenues Fresh & grocery
Sales 100 100 100 100 100
Gross Margin 19.9 33.0 23.5 35.0 21.0
Dump 2.5 0.0 0.0 0.0 0.0
Shrink 3.3 1.0 1.5 0.8 0.0
Gross Margin after
dump and shrink 14.1 32.0 22.0 34.3 21.0

Staff Expenses 7.7 4.0 3.8 4.0 2.5

Rental 3.3 5.0 5.0 7.0 2.5
Electricity & Utilities 3.9 3.0 1.5 1.5 1.0
Consumables 1.8 1.3 1.3 1.0 0.4
Facility Management 0.5 1.5 2.0 2.0 0.2
Sales Promotion & Advt 0.5 5.0 1.0 5.0 4.0
Bank / Finance Charges 0.5 0.5 0.5 0.5 0.5
License Fees 0.1 0.0 0.0 0.1 0.0
Stationery, Conveyance, others 0.3 0.5 0.5 1.1 0.6
Supply Chain Cost 2.0 2.0 2.0 1.8 1.0
Store EBITDA (6.5) 9.3 4.5 10.3 8.3  
Source: India Retail Report 2009, RAI

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Gross margin enhancement a potent tool to enhance profitability

We believe that in times of slow growth and rising pressure to save costs gross margin
maximisation is a very potent tool in the hands of the retailer. An effective merchandise mix
will benefit both the consumer and retailer. Especially in the food and grocery convenience
format and formats catering extensively to necessities, proper merchandise planning and
effective sourcing can help tide over the downturn.

Supply chain investment key to reducing dump and shrink rates

In the food and grocery format, dump and shrinkage account for 5.8% of revenues, with
dump accounting for 2.5% of sales and shrinkage 3.3%. In an otherwise low-margin business,
these costs are significant. This is largely a result of inefficiencies in the supply chain in the
country. Traditional Indian supply chain is unorganized, fragmented and has several layers,
which adds to costs and results in higher wastage. Crisil estimates that savings from
organized wholesaling will result in savings of around INR 1 tn.

Table 2: Improvement in supply chain to benefit customers and farmers

Benefits to end comsumers
Price (INR/kg) paid by end consumer
Tomato Potato Cabbage Cauliflower Banana
Traditional distribution system 8.2 12 9 9.5 12
Modern distribution system 6.5 11 8.2 8.5 10.5
Improvement (%) 20.7 8.3 8.9 10.5 12.5

Benefits to farmers

Realisation (in INR) by farmer for 100kgs of produce

Tomato Potato Cabbage Cauliflower Banana
Traditional distribution system 79.2 561.6 426 390 342
Modern distribution system 98.8 583.4 430.1 474.4 353.4
Improvement (%) 24.8 3.9 1 21.6 3.3
Source: Industry, Edelweiss research

Better product offerings and an attractive private label range aid gross margins

In addition to an improved supply chain, we believe that there exists scope for an
improvement in product offerings through better catchment study and customized brand
offerings. Each catchment is unique and retailers can increase footfalls and margins by
catering to these unique requirements. An example will be the varied types of sambar
powders used in the south and specific varieties of rice and dal preferred by different
communities.

Complementing the product range will be an attractive range of private labels. Private labels
are higher-margin merchandise and also have more flexible sourcing arrangement.
Additionally, in times of downtrading, these are effective tools to draw consumers with
pricing strategies. Retailers have also used local and lesser known brands efficiently to
capture various price points.

IT investment and modernization of processes on the rise

In addition to investment in the back–end, retailers are also investing in improving store level
infrastructure. The growing acceptance of customized software at the store level is proof to
this. With the rising popularity of the franchisee model and the large scale of operations
across the country managing quality and efficiency and containing shrinkage in stores is
possible only through IT systems. Other merits are better inventory management,
procurement and insights into customer buying behavior.
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Key developments in the sector: Monthly roundup

Retail sector growth to remain subdued for another year: Industry study

ƒ According to KPMG, India’s retail sector will continue to slow down for another 12-18
months and a recovery will depend on the government’s efforts to stimulate the
economy. Organised retail penetration, which was expected to touch 16% by 2012 from
the current 5%, is likely to reach only around 10%.

ƒ In the consulting firm’s survey, 70% of the respondents said lower footfalls have
adversely affected sales, prompting them into better cost management including rental
renegotiation, store rationalisation and manpower resizing.

ƒ Investment flow in organised retailing in India, which was projected to reach USD 25 bn
over the next four-five years, is also slowing down.

ƒ The KPMG report noted that those retailers who take immediate strategic measures like
rationalising stores, changing supply chain, consolidating operations and improving IT
infrastructure will benefit in the long run. In the current scenario, Indian retailers should
also look out for opportunities to partner with foreign players as it could bring in the
much needed capital and expertise.

Discplined operations and invetsment in systems gain prominance

ƒ Major players like Future Group, RPG Retail and Shoppers Stop have kicked off multiple
initiatives like automating processes, working closely with vendors to bring down waste
and implementing automatic just-in-time stock replenishment systems, and are seeking
ways to reduce costs on warehousing and transportation.

ƒ Spencer’s Retail was restructuring the supply chain network, planning increased flow-
through and direct receipts at large stores, implementing automatic replenishment for
FMCG and staples, and reworking the transportation routes to bring down freight cost.

ƒ Wills is using IT and data analytics for deployment and replenishment of stocks, aligning
strongly with customer preferences and demand levels, thereby minimizing out-of-stock
instances. Wills is also collaborating with vendors and logistics partners to optimize
freight costs and reduce back-mileage.

ƒ Shoppers Stop is exploring the possibility of joint planning with vendors to improve
supply chain to help improve cash flows in tough times like now.

Selective expansion continues

ƒ Mahindra Group company Mahindra Retail has launched its "Mom and Me" store, which
specialises in products related to infant and maternity care. The company plans to invest
about INR 1 bn to set up the stores of ~5,000 to 10,000 sq ft each during the first phase
of its expansion plan. It is already distributing toys, games and apparel under licenses
from international companies like Lego, Disney, and Matte.

ƒ Arvind Mills is looking to invest INR 4 bn to expand its retail business over the next four
years. It plans to invest INR 3 bn in large format retail centers and INR 1 bn in small
stores. It is planning to open 30 large retail centers (Megamart outlets) and 200 small
format stores (Megamart) across 100 cities in the country by 2012.

(The above highlights are based on news articles in the leading dailies)

Edelweiss Securities Limited

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 Retail

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Nischal Maheshwari Head Research nischal.maheshwari@edelcap.com +91 22 6623 3411

Coverage group(s) of stocks by primary analyst(s): Retail

Pantaloon Retail, Shoppers Stop and Titan

Recent Research

Date Company Title Price (INR) Recos

01-Apr-09 Titan Losing sheen 784 Reduce

Industries Initiating Coverage

17-Mar-09 Retail Growth improves;

Expansion slows down;
Monthly Update

11-Feb-09 Retail Liquidity management

Key to success; Monthly Update

05-Feb-09 Retail Testing times ahead

Sector Update

Distribution of Ratings / Market Cap Rating Interpretation

Edelweiss Research Coverage Universe Rating Expected to

Buy Accumulate Reduce Sell Total Buy appreciate more than 20% over a 12-month period

Rating Distribution* 48 44 23 8 126

Accumulate appreciate up to 20% over a 12-month period
* 3 stocks under review / 0 rating withheld
Reduce depreciate up to 10% over a 12-month period
> 50bn Between 10bn and 50 bn < 10bn

Market Cap (INR) 61 36 29 Sell depreciate more than 10% over a 12-month period

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