PADINI hopes to sustain its gross profit (GP) margin at above 35% through inventory and store optimisation, rather than price hikes that could hurt demand. It remains cautious on store expansion. Instead, it will focus on optimising underperforming stores. We maintain our forecasts, TP of RM3.63 and MARKET PERFORM call.

We walked away from PADINI’s post-results briefing feeling mixed about its near-term prospects. The key takeaways are as follows:

1. Hoping to sustain its GP margin above 35%. PADINI hopes to maintain its GP margin at above 35% in coming quarters, despite challenges such as rising purchase cost due to unfavourable forex movements and the need to clear older stock (of more than four months on the shelves). Recall, in 3QFY24, it grew its top line (+15% QoQ) at the expense of its margins, resulting in its GP margin dropping to 35.3% (vs. 38.1% in 2QFY24 and 39.9% in 3QFY23). For 9MFY24, the GP margin fell to 36.5% (vs. 39.5% a year ago) with a 9% YoY topline improvement. We assume a 36.1% GP margin for full-year FY24.

2. Cautious on store expansion plan. PADINI remains cautious on store expansion due to subdued consumer sentiment. It plans to open less than five new stores in 4QFY24, bringing new stores opened in FY24 to less than nine (vs. our FY24F net store addition assumption of five). It will continue to optimise its underperforming stores that make up less than 10% of its 139 existing stores.

3. Investing in logistics. PADINI plans to invest RM50m to RM100m over the next 2-3 years to enhance its logistics capabilities by upgrading its automated warehouse and establishing a logistics hub. It has no other plans for its net cash of RM804m as at end-3QFY24.

Outlook. The near-term outlook in the apparel retailing sector remain challenging due to weakened spending sentiment amidst persistently high inflation and consumers’ anxiety over the impending subsidy rationalisation. On a brighter note, the 13% salary increase for civil servants effective Dec 2024 should at least partially restore consumer spending power.

While we understand PADINI has no immediate plan to raise product prices, it hopes to defend its margins through inventory and store optimisation amid volatile raw material costs, a weak MYR and sustained high staff and distribution expenses.

Forecasts. Maintained. Our forecasts assume same-store sales growth of 1% and 2% and net additions of five and four stores in FY24-25F, respectively.

Valuations. We also maintain our TP of RM3.63 based on an unchanged targeted 13.5x FY25F PER, at a 10% discount to the segment’s average historical forward PER of 15x to account for the weakened spending power of its target customers, i.e. the M40 group. There is no change to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

Investment case. We like PADINI for: (i) its position in offering value-for- money apparel, which continues to attract budget-conscious consumers, (ii) its potential to benefit from the civil servants' pay rise, and (iii its strong net cash position enabling it to purchase inventory ahead of price hikes and potential supply disruptions.

Risks to our call include: (i) competition from existing and new players, (ii) sustained high inflation eventually erode consumers’ spending power, stalling consumption including apparel and footwear, and (iii) rising textile prices.

Source: Kenanga Research - 4 Jun 2024