• 3Q18 revenue met expectations but earnings disappointed
• Revenue rose from the record expansion of new stores but same-store sales has surprisingly turned very sluggish
• Gross margins remain strong but net profit was hurt by a surge in staff costs
• Our FY18e net profit has been lowered by 7% to incorporate a higher operating cost assumption. We keep our target price unchanged at S$1.13. We believe this is a near-term dip in margins with a strong recovery expected in FY19. Maintain ACCUMULATE.

The Positive

+ Picking up market share. 2018 will be a record year in store openings. As at September, SSG has opened 7 new stores. There will be another 3 more in the December quarter. New stores accounted for 10% points of growth in 3Q18. Industry supermarket sales in 3Q18 is down around 2%. We believe SSG is picking up significant market share especially from mall supermarket chains.

+ Gross margins still stellar. Gross margins rose 40bps to 26.5% in 3Q18. Excluding the record gross margins last quarter, 3Q18 margins are the highest for a September quarter. The shift into more fresh products is the key driver to margin improvement.

The Negative

– Same-store sales a worry. SSG same-store sales (defined as stores 2016 and older) only grew 0.2% YoY in 3Q18. This is a huge reversal from the 4% rise in the prior quarter.  There has been decline in footfall for the older shops due to declining residents, namely the foreign work population. Another factor was increased competition in certain locations.

– Operating margins hurt by additional headcount. Gross profits added almost S$6mn YoY in earnings, but this was offset by a similar jump in operating expenses. This caused EBIT to decline 1% due (including lower other income). Large part of expense rise was increased headcount for the new stores.

Outlook

We expect revenues to expand strongly for SSG in FY19 because of the jump in new stores and the negative impact from store closures (Verge/Woodlands) to disappear. Sales will also improve as store productivity is expected to reach record levels of above S$2,000 psft. Less certain is ability for the new stores to achieve break-even in particular the less mature areas.

Maintain Accumulate with unchanged TP at S$1.13. Our TP is based on an estimated 25x PE multiple. The company is expanding stores, increasing market share, expanding margins and enjoys a 25% ROE business with a net cash balance sheet. We believe FY18 is an investment year as SSG undertakes record store openings.