Sapphire Foods India Ltd - Stock Valuation and Financial Performance

Sub par performance driven by retail expansion while Same Store Sales Growth (SSSG) continues to be under pressure

About the Industry:

We believe that multiple drivers of growth for the Quick Service Restaurant (QSR) industry in India are in place over the next five years. As a nation of food lovers, the potential for the organized QSR sector, particularly those with middle-of-the-range pricing, is limitless. This channel is forecasted to continue its robust expansion, surpassing overall consumption and its peer group in areas such as apparel, retailing, and packaged food. Thus, it is important to view investments in this industry from a medium-to-long-term perspective.

India's QSR market is estimated to be reaching Rs. 83,000 Cr by FY 2025 as per marketresearch.com. This shall be on back of younger population coming to urban cities and the eating out trend increasing amongst them. 

Given the favourable conditions in the QSR industry, we believe that both Yum Brands' franchisees Devyani International and Sapphire Foods, which operate KFC and Pizza Hut formats, are well-positioned for growth through rapid store expansion. Both players have taken various initiatives such as rightsizing stores, cost rationalization, product innovation, and network expansion as their primary development strategies to enhance market share, improve store efficiency, and stay competitive in the market.

About the Company:

Sapphire Foods is Yum Brands franchisee in India, Sri Lanka and the Maldives. The company has 579 restaurant outlets (KFC, Pizza Hut, and Taco Bell) in operation by the close of FY 22. Sapphire Foods is promoted by private equity investors who own a 51% stake primarily through Sapphire Foods Mauritius Limited (25.1% is locked-in pursuant to an agreement with Yum India) Yum Brands Inc. has over 50,000 restaurants in more than 146 countries.

About the Management:

Sanjay Purohit: Whole time Director and Group CEO

Deepak Taluja: CEO-KFC

Vikrant Vohra: CEO-Pizza Hut.

Business Performance:

Click here to check 10 year Financial X-Ray

Sapphire recorded a revenue of Rs. 2202 Cr in the last 12 months with a net profit of Rs. 124 Cr. Despite an increase in the total number of stores from 550 in December 2021 to 715 in December 2022, the average daily sales per store for Pizza Hut and KFC have declined. Specifically, Pizza Hut's average daily sales fell from 64,000 to 58,000, and KFC's average daily sales fell from 1,44,000 to 1,36,000 during the same period. However, the management has successfully turned around the Pizza Hut business by reducing the size of the restaurant by approximately 45% and significantly reducing lease rentals and other operating costs.

The company's operating margins have decreased due to the adverse impact of inflation, operating deleverage, and the Sri Lankan market. Furthermore, continued inflationary pressure has impacted restaurant margins. Demand for both KFC and Pizza Hut in India has been sluggish, with higher competition affecting Pizza Hut more significantly. Gross margins have improved sequentially for KFC, but they continue to remain under pressure for Pizza Hut. Normalized operating margin was impacted in line with the decline in gross margin, which are expected to remain under pressure in the near term. The addition of 57 restaurants is in line with the company's medium-term aspiration of doubling its footprint in the next 3-4 years.

Key Performance Matrix:

KFC

Pizza Hut

Future Outlook:

Positive QSR growth Dynamics:

In India, the quick-service restaurant (QSR) sector has been rapidly gaining popularity due to several factors, including favourable demographics, the rise in literacy rates, higher disposable incomes, and easier access to these establishments. Affordability has also played a significant role in this growth. To attract Indian customers, Western fast-food chains have been customizing their menus to cater to local tastes and preferences. In 2020, QSRs had to adapt to significant changes in business operations due to the pandemic. Many restaurants turned to technology to offer contactless dining experiences and takeaways. Additionally, QSRs are modifying their menus to reflect evolving global trends and changing eating habits of Indian consumers.

Risks:

• A significant majority of Sapphire’s business depends on its arrangements with Yum for operating KFC and Pizza Hut stores. Therefore, the termination or non-renewal of these arrangements could have a severe negative impact on Sapphire’s business, financial condition, and operating results.
• Sapphire’s growth strategy and development commitments may be adversely affected if it is unable to locate and secure appropriate store locations, which could have a significant negative impact on its business.