DBRS Confirms Shoppers Drug Mart at A (low) and R-1 (low)

DBRS has today confirmed the Senior Unsecured Debt and Commercial Paper ratings of Shoppers Drug Mart (Shoppers or the Company) at A (low) and R-1 (low), respectively. The trends remain Stable.

Leading market position, ongoing retail expansion, favourable industry fundamentals and efficient operations continue to support Shoppers’ strong earnings profile. For F2008 (year ended January 3, 2009) Shoppers’ total sales increased 11.1% year-over-year (yoy) (8.9% in F2007). The Company’s top-line benefited from solid same-store sales growth of 4.8% (5.2% in F2007), additional square footage (11.6% increase in F2008), an additional selling week and acquisitions. Operating earnings increased 12.2% yoy in F2008 as top-line growth, an enhanced mix and purchasing improvements helped offset higher growth-related operating costs.

While full-year results remained consistent on a yoy basis, DBRS notes that operating margins showed only a modest improvement in F2008 as the competitive environment required greater emphasis on promotion. Same-store sales growth (especially in the front-store segment) showed some weakening in Q4 2008. DBRS expects these trends to continue in F2009, resulting in: 1) moderating sales growth (forecast by DBRS at 6.0%); and 2) operating margins that are modestly lower – to flat at best – in F2009. Overall, DBRS expects that this will result in a smaller improvement in operating earnings for the year, to approximately $930 million compared with $883 million in F2008. Over the longer term, DBRS believes that favourable industry fundamentals, the Company’s leading market position and focus on retail expansion and product development, and its rising operational efficiency will continue to support Shoppers’ strong earnings growth and ratings.

In terms of financial profile, DBRS notes that net free cash flow declined substantially for the year (-$268 million compared with -$16 million in F2007), due to higher dividends and expansion-related capex and working capital usage. With negative net free cash flow and increased acquisition spend, the Company’s debt balance rose from $1.07 billion in F2007 to $1.43 billion at year-end F2008. However, with the improvement in cash flow, the Company’s leverage and coverage metrics showed only a minor decline.

DBRS expects free cash flow to be negative again for F2009, yet to a lesser extent than in F2008 (i.e., between -$50 million and -$100 million), as a modest increase in operating cash flow in F2009 and lower working capital usage help offset higher capex and dividends. DBRS expects that this will likely result in a modest increase in debt; however, it should not have a material impact on the Company’s credit metrics or strong financial profile. DBRS expects lease adjusted debt-to-EBITDA to remain at or below 3.1 times.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Merchandisers, which can be found on our website under Methodologies.

This is a Corporate rating.