Gross Margin vs. G&A as % of revenuesOutside of the discussion around interest rates, there are two critical metrics that have, and will have, a dipropionate impact on NBLY’s valuation and this metric is gross margins and G&A as percentage of revenues.
As an industry with single digits operating margins, minor changes in gross margins and G&A have a material impact on profitability. From a gross margin perspective, the company has been heading in the right direction (and will likely continue to do so as expanded scope of practice increase high margin service revenues):
Fiscal 2022 Gross Margin: 37.1%
Fiscal 2023: Gross Margin: 39.1%
Fiscal 2024 (E): Gross Margin 39.4% (Q1/24 came at 38.8%).
The above trend is very encouraging, however G&A as % of revenues has been moving in the opposite direction largely due to vacancy management cost:
G&A % of Revenues 2022: 27.4%
G&A % of Revenues 2023: 29.15%
G&A % of Revenues Q1/2024: 30.1%
The lion’s share of the increase in G&A as % of revenues is this store operating costs (84% of the total), from Q1/24 MD&A:
“Store operating and general expenses increased as a percentage of Revenue to 25.3% for the first quarter 2024, compared to 23.2% for the first quarter 2023, reflecting the higher labour rates as well as incremental relief costs for open pharmacist positions.”
As a benchmark before shoppers was acquired their gross margins averaged 38.5% and their G&A as percentage of revenues averaged 27.6%. On the gross margin front, NBLY is actually doing better than Shoppers, and this could reflect the lower lever of competition in smaller markets, however on the G&A side they are off the market by 2% points.
In the MD&A, NBLY is targeting three levers to improve margins:
- Leveraging Existing Infrastructure: Neighbourly has made substantial investments in its corporate infrastructure that allow for highly scalable growth of the platform with limited incremental overhead costs.
- Improved Procurement and Product Mix: Neighbourly anticipates gross margin expansion for pharmacy and front shop revenue across its footprint. This improvement is expected to be driven by a combination of the Company’s increasing scale, enhanced purchasing power, and the data-driven refinement of product mix and merchandising.
- Share Best Practices: Neighbourly will continue to leverage experience across its network and its investments in Business Intelligence to implement best practices and improve staffing and administrative costs. Historically, these improvements have created opportunities for margin expansion post-acquisition.
Should G&A expenses return to at least 28% of revenues, and gross margins remains at 39% or higher, the company profitability will change radically. I believe the new CEO was brought onboard specifically to address this challenge so as to fully leverage the economics of a roll-up model. 2H results will be decisive as to how the market will perceive his performance.