Sheng Siong Group Ltd (SGX: OV8) | Singapore's Most Undervalued "Neighbourhood Supermarket"?

Updated: Aug 1


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Key Points

  • Sheng Siong is Singapore's 2nd largest supermarket chain

  • Features low prices and a nostalgic wet market for HDB heartlanders

  • Led by its founding family, the Lim Brothers, who have a strong track record of 38 years

  • Anomalous demand spike in FY20 due to COVID-19 lockdown, WFH and dining-out bans

  • Strong revenue fundamentals driven by 2015 store expansion to gain market share

  • Healthy bottom line sustained by 3-pronged cost efficient strategy, overturning norms of the asset-heavy grocery market

  • DCF-backed fair value estimate of SGD$2.22, representing a possible upside of 41.2%

Why Sheng Siong?

Given the explosive demand for groceries last year, we thought it an opportune time to cover Singapore's grocery retail industry and address some of the re-ignited speculation from the heightened COVID measures.


In this article, we delve deeper into the nuts and bolts of the Sheng Siong Group, one of Singapore's largest grocery retailers. We will determine if its current growth levels are merely short-lived, or a powerful taster of what is to come in the future….

Company Overview

Founded in 1985 and listed in 2011, the Sheng Siong Group (SSG) is an established household name with "Superbrands" status and the second largest supermarket player in Singapore. As of 2020, it owns a fleet of 63 stores and 26.6% market share behind NTUC Fairprice (30.1%) and ahead of Dairy Farm International (21.5%).


SSG stores offer a vast variety of food options across both the "wet" and "dry" food spectrum - selling fresh, live and chilled produce on one end, and preserved food products and essential household items on the other.


Across the supermarket landscape, SSG is a niche competitor and targets price sensitive, heartlander Singaporeans. It features low prices, a unique wet market, and higher market presence in HDB heartlands instead of commercial town and shopping mall areas. These 3 factors have coalesced into a unique niche strategy for Sheng Siong, enabling it to differentiate itself from both traditional and modern competitors.


Management

SSG's top management centers heavily on its founding family, the Lim Brothers. They own a substantial 18.4% stake in the company, and have held the key positions of Executive Chairman, CEO and Managing Director since incorporation.


Both CEO and Executive Chairman have also each accumulated an extensive 38 years in the grocery retail industry, which explains their strong track record in boosting sales while astutely maintaining a competitive bottom line for SSG. Since 2015, this has meant aggressive outlet strategies to acquire new customers, while simultaneously tightening working capital efficiencies to improve margins and supplement revenue growth.


Besides a healthy bottom line, SSG's management also consistently issues generous dividends, with a high payout ratio of 0.7 since 2017.

Industry Overview


1. Singapore's Mature Supermarket Industry

With their long operating hours, wider selection of products and numerous discounts, supermarkets have increasingly become the choice grocery retailer for Singaporeans.


This is reflected by a distinctive shift in consumer behaviour from hypermarkets and traditional grocery retailers (wet markets) to supermarkets in recent years, with supermarket retail value steadily increasing since 2010.


Yet, these high levels of market penetration have also caused growth rates to slow. Excluding the unexpected spike in demand in 2020, Singapore's supermarket retail value is forecasted to grow at -2.0% CAGR from $4.6 billion in 2020 to $4.1billion in 2025.


2. Competitive Market Dominated by 3 Players

Besides its maturing growth rates, the grocery retail industry in Singapore is also highly concentrated and competitive.


It is dominated by 3 established retail groups in Singapore: NTUC (Fairprice, Fairprice Finest, Fairprice Xtra, Cheers), Sheng Siong and Dairy Farm (Cold Storage, Giant, Marketplace). Under the Fairprice (230 outlets), Sheng Siong (61 stores) and Cold Storage (39 outlets) brands, these players held a significant 89.2% market share in FY20, making the industry highly concentrated.


Grocery retail is also highly competitive by nature, for household products, notwithstanding their variety, are mostly undifferentiated with many alternatives and substitutes available. Competition is hence not fought in terms of product value, but on more practical terms like pricing and convenience (see our market positioning map).



Based on our market positioning map, we think Sheng Siong has strategically crafted a niche for itself:

  1. On pricing, it adopts a value-for-money strategy that offers quality products at low prices, differentiating itself from the premium Cold Storage and middle class focused Fairprice brands.

  2. On convenience, it zeroes in on HDB heartlanders, varying from the commercial-based locations of its modern competitors (Cold Storage & Fairprice). It also operates till night time, attaining an edge over traditional wet markets which open only during mornings.

Financial Highlights


1. Stable Revenue Growth

Total revenue grew at a healthy CAGR of 13.0% from FY15 to FY20, with a spike of 40.6% YOY in FY20 due to elevated demand from COVID-19.


Revenue growth can be segmented into 3 factors:

  1. Same store sales growth (measured by revenue per sq ft)

  2. New stores in Singapore (measured by retail area)

  3. New stores in China (measured by no. of stores).


Previous sales driven by store expansion

From FY15 to FY20, SSG's key revenue driver was retail area expansion. Growing at a CAGR of 5.55%, it formed the majority of total revenue CAGR of 8.30%. Since 2015, this has been driven by SSG's aggressive outlet expansion strategy to acquire customers in areas where potential heartlanders reside, but that they lack presence in.



Unexpected demand in FY20

In FY20, revenue was primarily driven by same store sales growth. Of the 40.6% increase in revenue, same store sales formed a substantial 29.1%, while new stores held a mere 10.5%.


This was attributed to 3 factors:

  • From Q1-Q2 in FY20, this was triggered by an explosive demand for "dry" products amidst sudden stay-at-home measures and panic buying during COVID-19

  • In Q3-Q4, SSG enjoyed sustained elevated demand due to restricted movements and more Singaporeans working and cooking at home during Phase 2.

  • With an expanded Mandai warehouse in early 2020, SSG was able to back this massive sales spike with strong distribution and supply chain networks.

Notably, store expansion in Kunming, China is still at its nascent stage. Having opened their first store in FY17, China sales formed a minimal 1.0% of revenue growth in the last 4 years.



2. Healthy Gross and Net Margins

COVID peak in FY20

In FY20, gross margin reached a peak of 27.4% due to higher COVID-induced sales and improved cost efficiency.


Slight improvement in FY17-FY19

From FY17 to FY19, gross margin remained relatively healthy at an average of 26.6%, with a slight improvement YOY. Gross margin was enhanced by 2 factors:

  1. Improved sales mix with higher proportion of fresh to non-fresh produce. Fresh produce have more attractive supplier discounts and bulk buying which enable economies of scale, lowering overall input prices for SSG

  2. Increased sales of house brands over name brands, whose lower prices have been more attractive to increasingly price-conscious Singaporeans. Selling housebrands gives management tighter control over supply chains and cost maintenance, enhancing gross margins


Excluding the anomalous spike from COVID 19 in 2020, net margin has also remained relatively constant at 7.8%. We attribute this to SSG's centralised distribution centre at Mandai Link Warehouse since 2011, which tightens operating efficiencies and maintains a healthy bottom line.



3. Strong Balance Sheet

Liquidity ratios have been consistently healthy, reflecting a high quality management and tight working capital maintenance. As of FY20, SSG had strong current and quick ratios of 1.0 and 1.3, which is slightly higher than the industrial average of 0.8.


Since it has had a debt-free balance sheet since inception, SSG also enjoys high solvency and virtually no financial risk. Its total liabilities/total assets ratio, a common measure of long-term solvency, was at a healthy 45.8% as of FY20. This is almost half that of competitors like Dairy Farm, which stood at 83.1%.

Thesis


Thesis 1: Retail expansion strategy fortifies niche position as "Neighbourhood Supermarket"

As a niche competitor in the supermarket space, SSG's value proposition centers on serving as a "Neighbourhood Supermarket" in the HDB heartlands, with a special tilt towards the older generation. This strategy comprises of 2 areas: 1) value-for-money items and 2) an elevated wet market experience.


1) Value-for-money Items

Among Singaporeans, SSG has a strong reputation for offering quality products at low prices. This competitive price strategy is 2 pronged, targeting both heartlanders broadly and seniors specifically:


Based on a typical basket of goods comprising milk, eggs, veggies and chicken, SSG items are priced slightly lower than competitors, most especially for fresh produce.


However, contrary to SSG's value-for-money reputation, the low benchmark rates for groceries mean that price differentials between supermarkets are quite minimal in reality. For instance, the average 1L milk price (between Cowhead, Marigold, Farmhouse & Magnolia) is $3.38 for Sheng Siong, which varies only slightly from Fairprice and Cold Storage at $3.35 and $3.43 respectively.


SSG's reputation is hence mainly propagated through its budget offerings, enticing the inner promotion-seeker in us through monthly "Mega" promotions and highly publicised lucky draws during its weekly Sheng Siong Show:



From a weekly side-by-side comparison between supermarket chains, it is evident that Sheng Siong offers greater depth and variety of promotions, with its Mega promotion and Baby Fair promotion containing far more offerings. Fairprice, on the other hand, comes to a close second, but thrives more on promotional frequency than variety, with its weekly release of 5 promotions.


Senior-specific strategy

Besides these general promotions, Sheng Siong also has calibrated strategies to target the older generation. This includes 3% weekly rebates for seniors and its highlight variety game segment: the Sheng Siong Show.


Held every Saturday, the Sheng Siong Show offers attractive cash prizes through game segments that are designed to win the seniors' hearts and minds. This includes talent shows, outdoor cooking, and in-studio games - activities typically watched by seniors for entertainment and leisure.



2) Wet Market with a Twist Concept

While low prices are not atypical of supermarkets, SSG is the sole grocery retailer in Singapore offering a "wet market with a twist" concept, blending both the traditions of wet market items with the modernity of convenience.


Its store environment mimics the yesteryears of wet markets (see picture for a glimpse), which appeals to the older generation through familiarity and nostalgia.


This wet market concept enables it to attain an edge over both ends of the retail grocery spectrum:

  1. Modern grocery retailers - by offering items typically only available in wet markets like fresh produce, incense and joss paper for worship

  2. Traditional wet markets - by operating well into the night (some as late as 10pm) and offering a comfortable, air-conditioned environment



3) Growing the "Neighbourhood Supermarket" Brand

Since 2015, SSG has sought to cement its "Neighbourhood Supermarket" strategy through retail expansion in HDB estates and neighbourhood shopping malls.


Management aims to increase store count by an average of 5 stores, thereby acquiring market share and offering greater locational convenience to heartlanders. In FY20, for instance, it opened 5 new stores and closed 1, bringing its total store count to 63.


These outlets are also strategically positioned in areas densely populated with older citizens. Based on the figure below, there are substantial overlaps between SSG outlets and older estates with citizens aged 40-55.


Overall, SSG's clearly defined growth strategy and distinctive customer base have enabled it to accrue strong fundamentals. It outperformed competitors from FY17 to FY20, steadily increasing its market share by 2.4% even as Fairprice and Cold Storage decreased by 0.4% and 1.2% within the same period.


Given these optimistic historical growth rates, we are confident that Sheng Siong will be able to capitalise on store expansion to gain more Singapore market share by 2025.



Thesis 2: Overseas China expansion combats maturing local growth

Notwithstanding its local expansion strategy, SSG recognises the growing saturation of Singapore's supermarket landscape due to our small population size, slowing population growth, and limited land space for supermarket tenders.


Massive opportunity in China

It has hence established a foothold in China's grocery market, which is growing at a much faster pace than Singapore. Based on international research firm IGD Asia, China is expected to become the world's largest grocery market by FY23, with 5.5% CAGR and US$1.8trn market size that trumps the combined value of Asia's next 4 largest grocery markets (India, Japan, Indonesia, and South Korea).


SSG's China operations

Specifically, SSG has ventured into Kunming, China, opening 2 stores in Nov 2017 and June 2019. Revenue has also grown at a healthy pace, with sales per store increasing 51.8% YOY in FY20.


However, SSG's China operations are still in their nascent stage, forming less than 2% of the Group's revenue in FY20. Unlike SSG's active retail expansion in Singapore, there is also significant uncertainty on their China strategy, with no guidance offered by management for future growth targets as of Q1 FY21.


Hence, while China sales seem healthy, we should temper this optimism moving forward, given the lack of concrete updates by management.



Thesis 3: Cost efficient strategy sustains healthy bottom line

Underlying SSG's local and overseas expansion are its cost efficient strategies. This has created healthy gross and net margins despite its high YOY revenue growth - a rare feat in the asset-heavy grocery industry.


SSG's cost efficiency comprises of a 3-pronged approach:


1) Central Location at Mandai Link Warehouse

The Mandai Link Warehouse has served as a central processing, warehousing and distribution facility for SSG since 2011. This enables bulk handling and direct sourcing of inventory, driving down input costs which creates higher gross margins:

  1. Centralised inventory tracking system - improves bulk inventory management and creates operational efficiencies in terms of manpower, transportation and fuel, thereby lowering distribution costs.

  2. Direct access to fresh food suppliers instead of relying on middlemen - compared to NTUC and Dairy Farm, whose poultry are imported through resellers, SSG's fresh produce are all self-sourced and self-packed. This cuts out middlemen costs, while placing it in a higher bargaining position to negotiate better prices and purchase terms with suppliers.


This seems to be one of management's key strategies, having expanded their distribution centre in early 2020 which increased warehouse capacity by 18.0%. In FY20, this allowed it to circumvent disrupted supply chains during COVID-19, capturing elevated demand while still catering to higher inventory storage and distribution needs.


2) Active Digital Collaborations with Enterprise Singapore

Through consistent digital collaborations, SSG has also enhanced Mandai Warehouse's proposition as an efficient distribution medium. Since 2015, it has launched 3 key digital products with Enterprise Singapore, improving productivity and lowering distribution costs:

  1. SS Enterprise App - one-stop online tool that integrated business processes like purchase order approvals, and inventory and sales monitoring

  2. PC-based weighing system in 2019 - resolved error-prone process of distributing fresh produce by weight, which reduced suppliers' waiting time and increased distribution accuracy

  3. Automated Storage and Retrieval System (ASRS) in Mar 2020 - automated inventory placement in Mandai Link Warehouse, saving storage space and reducing labour needs


3) Optimised Sales Mix with Higher Fresh Produce

Besides appealing to heartlanders, SSG's wet market strategy also increases its proportion of fresh produce vis a vis dry items, with an estimated 40% fresh vs 60% non-fresh in FY20 (DBS Bank Group Research). This improves sales mix, given that fresh produce typically has higher gross margins of approximately 30% than dry items at 20% (DBS Bank Group Research).


Since management explicitly touted sales mix as a key cost-saving strategy in FY20, we think SSG's sales mix is likely to be skewed even further moving forward.


Overall, we think management accurately realises that a strong bottom line is one of SSG's key value propositions. Cost efficiency is hence likely to improve slightly in the future (given the existingly high benchmarks), with technological efficiencies and an optimised sales mix fronting this strategy.

Valuation