Initiating coverage on 7-Eleven Malaysia at OUTPERFORM with TP of RM1.70 based on FY18E price-multiple blended valuation, including P/BV of 38.5x, PER of 30.5x and P/Sales of 0.92x. 7-Eleven is commanding the convenience chain store market with further stores expansions leveraging on its strategic relationship with 7-Eleven International, USA and Berjaya Group to access prime locations and provide value-added services. 7-Eleven has been working towards an overhaul in its stores operations to mitigate the high operating expenses and expected to improve profitability in FY18.

7-Eleven commanding the convenience chain store market with stores expansions (currently, at 82% of market share). 7-Eleven has targeted to open at least c.150 new stores per year over the next two years, translating into organic growth of 7%, lower than Bison’s organic growth of 24%. However, we believe this is compensated by 7- Eleven’s higher base (current base at 2,186 stores as of 30th June 2017) which commands 82% of the convenience store market (based on standalone convenience store segment, excluding petrol marts).

Funding expansion through borrowing. The group has allocated CAPEX ranging from RM280,000 to RM300,000 per new store (estimated average gestation period of 2 years) with additional allocation of refurbishment capex at an average RM100,000 per store. The cost of the new stores and refurbishment is based on the size of the allocated site. We have estimated capex allocation of c.RM68.0m each year for the next 2 years which we believe will be funded through borrowing, as we saw an increase of 73% in borrowings to c.RM200m from the recent 2Q17 results announcement.

Strategic relationship with 7-Eleven International, USA and Berjaya Group. The group has been granted the rights by 7-Eleven Incorporated, USA to operate 7-Eleven convenience stores in Malaysia and Brunei (until 2033 with option to renew) which provide the group with the benefits of sharing international brand equity as well as inventory and operational support. In addition, the company is wellsupported by its major shareholder, Berjaya Retail Bhd, and is able to leverage on the strategic relationship with the Berjaya Group to access its networks, resources, and prime locations at competitive rental rates. This includes the group strategic relationship with MOL (part of the Berjaya Group) and Alipay E-Wallet (partnership with Alibaba group) to provide in-store services.

Operation restructuring for cost savings, with the aim to be the lowest cost operator. The group has been working towards an overhaul in its stores operation and end-to-end supply chain operations with comprehensive plans called the “Back to Basic” and “Changing the Game” programmes. Overall, the move should improve customer experience and results in cost savings in inventory storage, warehouse operations and supply chain costs across different regions. Currently, operating expense is at c.33% of revenue, and we believe the group is targeting it to be at most at the historical level of c.30% (FY13/FY14).

We initiate coverage with OUTPERFORM call and target price (TP) of RM1.70 based on FY18E price-multiple blended valuation, including P/BV of 38.5x, PER of 30.5x and P/Sales of 0.92x. Our TP implies 35.0x target PER, which is slightly higher than 3-year historical average PER of 30.5x, is justified given that treasury shares adjusted ROE of 25% is comparable to average regional peers (25%) and also above its local listed peer, Bison (16%). Furthermore, revenue is expected to see a steady growth since IPO, recording 3-year revenue CAGR of 6% (FY16A to FY18E), hence boosting the P/Sales valuation. We also expect more resilient sales prospects with its 82% market share (based on standalone convenience store segment, excluding petrol marts) as well as a solid growth trajectory with expansion of stores and operational enhancements.

Source: Kenanga Research - 2 Oct 2017