ACES:Expanding margin - Mandiri

ACES has the highest operating margin among 3 retailers that we cover (the others are Ramayana and Mitra Adiperkasa). FY10 operating margin of 13.3%, in our view, was an achievement that will be difficult to sustain. The operation of the Living World outlet of 18,000sqm, their largest site, and 12.1% of ACES total gross space as of February 2011 of 147,802sqm will be the test of their marketing prowess. We adjusted upward our earnings forecast for FY11 and FY12, but maintaining our Neutral recommendation. DCF target price was upgraded from Rp2,570/share to Rp2,640/share.

Net income matches consensus and above our forecasts. ACES’s FY10 net income was 106.8% of our estimates and 99.8% of consensus. Operating margin expanded from 13.1% in FY09 to 13.3%, with gross margin rising from 40.7% (FY09) to 43.2% (FY10). Including games in the lifestyle category, lifestyle product contribution increased from 33.8% in FY09 to 35.6% in FY10. Lifestyle has higher gross margin (45.0%) compared with home improvement (40.3%). The expansion of lifestyle products, we think, contributed to the higher gross margin. Another improvement was in their cash cycle which got shorter in FY10 (106 days) from FY09 of 109 days.

Living World, a drag or a boost? ACES added 24,105sqm in 2010 to end FY10 gross space of 129,802sqm. In February 2011, in the Living World, a mall owned by ACES’s affiliates, ACES opened its largest outlet of 15,000sqm Ace Hardware, and 3,000sqm Toys World. ACES planned to open another 5 stores (Surabaya, Jakarta, Manado, Makassar and Solo) in 2011, with total gross space of around 15,000sqm. The large spaces offer argument of efficiency, but counter argument is it is in a mall which tends to have lower productivity than ACES’s outlets in shop houses. We are lowering gross margin assumption for ACES in FY11 to 42.0% to accommodate the Living World introduction phase.

Maintain Neutral, fine tuning target price. Market has priced in ACES’s outperforming operating performances against its peers. ACES is traded at FY11F consensus PE of 20.8x, higher than Mitra Adiperkasa FY11F consensus PE of 16.7x, and Ramayana FY11F of 11.9x. We are looking forward to see impact of the Living World venture in ACES 1H11 performance (1Q11 will be too early).