DUFRY - Dufry: Expect To Benefit From Travel Recovery Especially From China Travelers

2023-03-09 08:00:57 ET

Summary

• Dufry's positive start to FY23 is evident through its year-to-date sales being only 3% lower than 2019 levels and the updated guidance, which includes expectations of growth in top-line revenue.
• The return of global travel trends, including Chinese travelers, could provide a significant boost to Dufry from 2H23 onwards.
• At the current valuation, the stock is an attractive long, and investors can look forward to a mean reversion in multiple alongside a strong upwards revision in earnings.

Summary

Dufry ( OTCPK:DUFRY ) operates as a travel retailer. The Company manages duty-free and duty-paid shops, as well as convenience stores in departing/arrival areas such as airports, seaports, railway stations, and also central tourist areas for consumer goods brands. In general, DUFRY appears to be off to a positive start in FY23, as its year-to-date sales in February 2023 are only 3% lower than 2019 levels, a significant improvement compared to the 15% decline seen in 4Q22 . Management also updated their guidance to include expectations of 8.5% growth in top-line revenue, a Core EBITDA margin of 7.5%. Based on consensus' figures, it seems like they are expecting DUFRY to return to 2019 levels in 2025, as such, I believe there is a good chance for the stock to react violently upwards when management shows signs that they could recover this year. The key catalyst this year would be global travel trends, including the awaited return of Chinese travelers. I expect the crystallization of these two would provide a significant boost to DUFRY from 2H23 onwards. At the current valuation of 6x forward EBITDA (~2.8x below 10-year average), I believe it is an attractive long. Investors can look forward to a mean reversion in multiple alongside a strong upwards revision in earnings.

4Q22 review

DUFRY's organic sales increased by 34.4% in the fourth quarter, and the company posted an EBITDA of CHF143 million. Revenue, core EBITDA, and free cash flow all came in better than expected in 4Q22. But there are a few reasons why the market has already seen this coming. To begin, travel data in EU has improved strongly. Secondly, FY22 results for DUFRY competitor Autogrill ( OTCPK:ATGSF ), which come earlier than DUFRY, showed a strong recovery in airport retail sales. As such, I believe the stock market already accounts for all these way before DUFRY released its results (i.e. the stock started moving up since a few weeks back). DUFRY's negative CHF32 million EFCF in 4Q22 was driven by lower-than-anticipated capex, and management restated the mid-term guidance it had initially provided back in September during capital market days, which I believe was already assumed by consensus at the time of the 4Q22 earnings report. Therefore, I don't think there will be many shifts in consensus estimates.

Gross margin outlook

One thing that also stood out from DUFRY FY22 performance is that gross margins were actually above 2019 levels. While this is a good thing, on the surface, this did not translate directly to higher EBITDA, which begs the question of how much S&M was invested to drive this higher gross margin. My concern is that gross profit/revenue are supported by S&M in FY22, and when it levels off, actual underlying performance might not be as good as it is when compared to FY19. That said, a counter effect in the coming quarters would be the return of Chinese nationals. I would expect a lot of these Chinese to be huge spenders on luxury products (this is just my take), as such this could boost gross margin. Overall, I have a pretty mixed view on gross margin outlook, and I think this warrants further scrutiny.

FY23 FCF might be better than expected

During the results call for FY22 , management mentioned that the consensus estimate of approximately CHF 200million for EFCF in 2023 for the merged group was in line with the guidance provided during the capital market day and their FY22 results guidance. What caught my attention, though, was that management had stated there would be zero carryover effect from CPEX in 2022 into 2023. If this is the case, then FY22 free cash flow could potentially exceed guidance, but management has not specifically communicated on this.

Thoughts on guidance

There are a few underlying drivers that could swing the guided figures above or below range. The first and most obvious factor is the recovery in China travel. I believe everyone has a good understanding on the magnitude of recovery (from China's point of view), but the question is how much does China spending represent as a % of DUFRY sales. My worry here is there might be a gap between what consensus expects and the actual underlying figure, which might cost disappointments. The second factor is the outcome of AENA contract in Spain. I believe most investors, including myself, is expecting the tender to get awarded to DUFRY. However, if that fails, the impact to earnings is not specifically communicated. This could also result in a big difference between reported performance and investors' expectations.

Conclusion

In conclusion, DUFRY positive start to FY23 is evident through its year-to-date sales being only 3% lower than 2019 levels and the updated guidance, which includes expectations of growth in top-line revenue and Core EBITDA margin. There is a good chance for DUFRY stock to react upwards if management shows signs of recovery, and the return of global travel trends, including Chinese travelers, could provide a significant boost to DUFRY from 2H23 onwards. However, the gross margin outlook is mixed, and it warrants further scrutiny. The recovery in China travel and the outcome of the AENA contract in Spain are factors that could also impact DUFRY's earnings. Nonetheless, at the current valuation, the stock is an attractive long, and investors can look forward to a mean reversion in multiple alongside a strong upwards revision in earnings.

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