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We reaffirm our Neutral recommendation on Companhia Brasileira de Distribuicao (CBD - Analyst Report) following the appraisal of its third quarter 2012 results. The company posted robust year-over-year earnings and revenue growth despite currency translation headwinds and tough employment conditions, particularly in Europe.

Why the Reiteration?

Companhia Brasileira’s third quarter earnings of 69 cents shot up 122.6% year over year, reflecting continuing operational improvements in the two business segments, namely GPA Food and Viavarejo.

Consolidated gross sales, comprising GPA Food and Viavarejo, increased 8.7% (in local currency), driven by same store sales growth owing to improved product mix and addition of new stores. Consolidated net sales climbed 9.7% during the quarter.

Where gross margin contracted 140 basis points to 26.4%, pressured by increased logistics costs in the electronic segment; EBITDA margin expanded 10 basis points year on year to 6.6%, driven by operational improvement at GPA Food.

Overall, we are optimistic about the company’s position in the retail sector. Companhia Brasileira is a leading player in the global food retail sector based on both gross sales and number of stores in 2011, with market share of approximately 23.5% in the Brazilian food retail sector. In addition, Companhia Brasileira is the second biggest retail company in Latin America in terms of 2011 revenue and the second largest online retailer in Brazil.

The company has also strengthened its portfolio with acquisitions. It has acquired many supermarket chains since 1981 in order to increase its market share. To further expand its supermarket business, the company has planned to open 100 new Minimercado Extra Stores in 2013 with an investment of $860 million. We expect the company to enhance its portfolio with more store openings in the long term.

Further, the company has expanded its e-commerce business with the acquisition of Nova Casa Bahia and by concentrating all e-commerce assets of the Pão de Açúcar Group and Casa Bahia Comercial Ltda. into Nova Pontocom. The acquisition of E-Hub, a service company in the e-commerce segment, further enhanced the company’s e-commerce business.

However, the retail sector has experienced economic slowdown in 2012 that has led to a decline in consumer spending. The continued weakness in consumer expenditure may impact the company’s home appliances sector. Currency translation headwinds and tough employment conditions, particularly in Europe also remain a threat.

The company faces intense competition from its rivals, such as Carrefour SA as well as from local and regional players in the respective countries. In addition, the sour relationship between the holding groups of the company will remain a significant overhang.

Other stocks in the discount, variety store sectors that are presently doing favorable business include Target Corp (TGT - Analyst Report) and Wal-Mart Stores, Inc. (WMT - Analyst Report). Both these companies carry a Zacks Rank #3 (Hold).

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