Defensive Business Acts as Hedge Amid Challenges: Shares of Loblaw (TSX:L) have increased by more than 7% so far this year as compared to about 17% decline in the broader market. Being Canada’s largest retailer, Loblaw remains immune to economic cycles thanks to the sustained demand for food and medicines. The company operates through two reportable segments, including retail and financial services.

The company’s retail segment includes food and pharmacy stores. The company’s stores also offer apparel, health and beauty products, and other general merchandise. The financial services segment offers credit card services, insurance brokerage services, and telecommunication services.

Key update: Loblaw recently announced that it is witnessing an uptick in demand as a large number of people turned up to its grocery stores and pharmacies to stock up essentials as COVID-19 cases surge. While the company is likely to report higher sales due to the surge in demand, it rolled back its 2020 outlook given uncertainty over the business prospects in coming days.

Financial highlights: The company posted revenues of CAD 48.04 billion, up 2.9% y-o-y, thanks to the growth across both retail and financial services segment. Retail segment’s revenues increased 2.8% y-o-y, reflecting sustained momentum in same-store sales. Food retail same-store sales increased 1.1% in 2019, while, drug retail same-store sales growth accelerated to 3.6%. Adjusted EBITDA increased to CAD 4.912 billion, reflecting growth across both the segments. Operating income came in at CAD 2.270 billion, reflecting growth in the retail segment and improvement in the financial services segment. Adjusted net earnings from continued operations stood at CAD 1.516 billion, reflecting a y-o-y decline of 1.5%.   

Cash flow from operating activities came in at CAD 3.960 billion, as compared to CAD 2.501 billion in 2018. Free cash flow stood at CAD 1.210 billion, up significantly from CAD 0.366 billion in 2018.

Financial Highlights (Source: Company Reports)

Valuation Methodology: EV/EBITDA Multiple Approach 

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

Stock recommendation: The high volatility in the market calls for buying defensive stocks like Loblaw to stabilize the portfolio. Loblaw’s offerings are critical, and the company could continue to witness sustained demand for food and drug. The company has also expanded its online capabilities, which is likely to drive traffic as more and more people are buying online as they stay at home. Loblaw stock offers modest and sustainable yields. The company’s current dividend yield stands at 1.8%.  We believe, Loblaw’s recession proof business, strong geographic footprint, and modest yield makes it a perfect defensive play amid uncertain economic environment. We have valued Loblaw stock using the EV/EBITDA based relative valuation method. We have taken peers like Metro Inc. (TSX: MRU), Alimentation Couche-Tard Inc (TSX: ATD.B), and Empire Company Ltd (TSX: EMP.A) and arrived at a target price implying a potential upside in low double-digits. Hence, we recommend a “buy” on the Loblaw stock at the closing market price of CAD 71.97, down 3.6% as on April 9, 2020. 

Loblaw Daily Price Chart (Source: Thomson Reuters)

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