OREANDA-NEWS. April 26, 2012. In this note we downgrade Magnit rating to HOLD from Buy, maintaining our target prices at USD 31.1 per GDR and USD 140.2 per local share. We see limited upside potential in the name (5% and 9% per GDR and local, respectively on our estimates) as the stock is up 40% YtD and now has become one of the most expensive companies in the global food retail universe, reported the press-centre of ATON.

Strong fundamentals… Magnit’s high operating efficiency, low leverage and strong expansion potential means that it offers the best-in-class exposure to a growing market, and its 1Q12 unaudited IFRS results released on 23 Apr underscore our view.

The company was able to post higher margins due to enhanced purchasing terms and operating efficiency, on which Magnit was focusing in 2H11, suggesting that these margins are sustainable. On the other hand, our expectations of strengthening competition may force Magnit to invest its gross margin in building up traffic, which would dilute its approximately 9% EBITDA margin starting from 2Q12, in our view.

…look priced-in. The stock is up 40% YtD outperforming the RTS by 26% and currently trading at 12.8x 2012E EV/EBITDA, on our estimates, which implies a 14% and 22% premium to EM and local food retailers, respectively.

As we see no further room to improve our Magnit forecast, we offer an alternative trade, favouring X5 over Magnit for the next quarter:

1. X5 trades at discounts to EM peers and Magnit. The stock has underperformed Magnit, the RTS and EM food retailers by 37%, 11% and 18% YtD and is now trading at 30% and 39% discounts to EM food retailers and Magnit, respectively on 2012E EV/EBITDA, on our estimates.

2. We see scope for higher X5 traffic and margins. Kopeika’s integration has been finalised and we expect X5 to deliver accelerating QoQ sales growth driven by new store openings and rising sales density in its Kopeika stores. LfL sales should also improve due to a recovery in traffic following the launch of X5’s aggressive new marketing campaign. The market will likely reward any improved performance with greater demand and consequently a share price increase, as well as a Magnit -X5 spread contraction. The latter is presently at its widest point YtD.