Wednesday, July 15, 2009

Volume 3, Issue #64

Also in Today's Issue...

If you want to truly tap into the exciting developments taking place in Brazil, then entrenched consumer-oriented companies like Companhia Brasileira Distribuicao (NYSE: CBD) are your best bet. Think of the diverse retailer as Kroger, CVS, Wal-Mart, and Best Buy all rolled into one.

CBD is one of Brazil's largest food sellers, controlling 13% of a large, but still fragmented grocery market. The firm has a variety of store formats that cater to a full-range of clientele -- from the budget-minded Sendas chain to the upscale Pao de Acucar supermarkets.

The company also owns general merchandise superstores that are stocked with all types of goods. Its Extra/Eletro outlets attract shoppers looking for electronics and home appliances, while local gas stations and convenience stores round out the portfolio. Overall, the company manages 600 retail establishments that take in nearly $10 billion in annual sales.

CBD's geographic footprint extends throughout most of Brazil's more affluent and developed regions along the Atlantic seaboard. Its stores are concentrated most heavily in Sao Paulo -- the largest metropolitan area in South America. This booming state accounts for $550 billion in goods and services each year -- greater than the total economic output of Egypt.

Cosmopolitan Sao Paulo is filled with museums, art galleries, luxury hotels and five-star restaurants. Its prosperity is a big reason why CBD (which rings up over 530 million purchases annually) has seen average tickets climb from $15.55 to $18.66 over the past four years.

CBD has several sustainable advantages over its competitors -- as you might expect from a dominant industry leader with healthy returns on capital. Aside from impressive distribution infrastructure, the firm has an extensive selection of exclusive, private label brands that generally occupy the No. 1 or No. 2 position in their respective categories.

I could also talk about improved inventory turnover or reduced operating expenses -- but the bigger picture is much more illuminating.

Brazil is a model for social mobility. Lower-income workers are graduating to the middle class -- the so-called "B" and "C" wage earners now represent 74.2% of the population, up from just 48.5% a year ago.

Clearly, that powerful demographic shift is supporting healthy top-line growth (revenues have expanded at a rapid +19% annualized pace since the firm's IPO in 1995.) The outlook is particularly promising for the electronics and household appliances market, which is forecast to double from $30 billion to $60 billion in the next five years.

The highest paying wages in Brazil belong to those in the utility business, which has seen a +300% increase from 2004 to 2006.
There are other growth drivers that will propel the company forward over the next few years. For example, a partnership with Bank Itau has placed financial service centers in the firm's supermarkets, and has already attracted six million clients in just four years. Online sales are exploding as well -- up +168% last year.

Looking ahead, CBD will likely deliver same-store sales growth in excess of 8% this year, impressive even after stripping out the artificial impact of inflation. More importantly, earnings are likely to follow suit. Management's compensation is linked to profits -- and executive bonuses don't kick in unless EBITDA growth hits at least double digits.

Action to Take --> Unlike the steep economic slumps that most countries are mired in, Brazil's GDP slipped just a fraction of a percent last quarter. Many expect the country to be one of the first to bounce out of this recession. Until then, food will be one of the last things consumers cut back on.

On the downside, these ADRs are technically preferred shares with no voting rights. But in exchange, they are granted 10% higher dividends, and the company has a policy of distributing 25% of its profits to shareholders. And there will be plenty of those over the next few years as a growing number of mid/upper-class shoppers translates into busier store traffic and rising average tickets.

Good Investing!

-- Nathan Slaughter
Editor
Half-Priced Stocks

P.S. In my latest issue of Half-Priced Stocks, I list eight other companies that should benefit from Brazil's booming economy -- including a telecom giant that has the potential to appreciate +128%. To get more information on Half-Priced Stocks and the names of the eight companies, visit this link.