Cafe Coffee Day primary offer: a rich brew

cafe-coffee

If you are looking for a slice of the growing food and beverages industry in India, you can subscribe to the IPO of Coffee Day Enterprises (CDEL), the holding company of the Café Coffee Day chain of coffee shops. While the issue is fairly priced, healthy growth prospects in the café retail business, combined with the expected improvement in profitability due to debt reduction via part-payment of dues with the IPO funds, make the offer attractive for long-term investors.

Café Coffee Day made a head-start in coffee retailing in India − as early as 1996. It currently has about 1,500 plus outlets in 219 cities. Barista is a distant second with 165 outlets. In the recent June quarter, same-store-sales growth, a measure of how well stores perform on a sustained basis, was 6.4 per cent for Coffee Day. This shows resilience in difficult market conditions. Yum, which operates Pizza Hut, KFC and Taco Bell restaurants, recorded an 18 per cent decline in same-store-sales growth in the quarter. CDEL is however, not a pure retail play.

Coffee Day Global that runs the Café Coffee Day chain is an 85.1 per cent subsidiary of CDEL. Besides, Sical Logistics, a listed player in the logistics space, Way2wealth Securities, Serai Resorts and Tanglin Developments that develops tech parks are also subsidiaries of CDEL.

CDEL also holds 16.1 per cent in listed IT services company MindTree.

Debt in the books

While CDEL, on standalone basis, has debt of ₹1,392 crore, on a consolidated basis its debt stands at ₹3,214 crore. The interest expenses, combined with high depreciation in recent years following the fast ramp up in the number of cafes, have pushed CDEL into losses. The company has been making losses in the last three years. In 2014-15, CDEL made a net loss of ₹87 crore at the consolidated level. However, most of CDEL’s subsidiaries are profitable at the operating level, with the exception of the hospitality business.

Going forward, interest costs will be pruned as ₹632.8 crore of the issue proceeds will be used to repay CDEL’s debt. The company expects interest costs to decline by ₹70-75 crore next year.

Fairly valued

Depreciation is also expected to drop as the pace of store additions slow. Also, margins will improve as stores added in the last two years break even.

If we do a sum-of-parts valuation, and give a 15 per cent holding company discount to investments in MindTree and Sical Logistics, the per share value of CDEL works out to roughly about ₹340/share. The value of the coffee business (Coffee Day Global) alone is about ₹190/share valued at EV/EBIDTA of 18 times at which its global peer Starbucks trades. The issue is therefore, fairly valued, limiting the possibility of strong gains in the immediate future.

CDEL’s coffee business includes the coffee retail chain, vending and export of coffee beans. The company’s coffee retail revenue has grown at an annualised rate of 14 per cent in the last four years with additions of about 150-200 stores every year. CDEL has indicated that from here it will be selective in opening new outlets as it already enjoys a large presence in the market. Of the ₹1,150 crore of funds raised, ₹287.5 crore will be spent on the coffee business — split between setting up new cafes and refurbishing existing cafes.

The coffee business has been witnessing a profit margin of about 15-16 per cent consistently in the last three years. If volumes improve, margins may expand further.

Other businesses

The logistics business through Sical Logistics accounts for a third of CDEL’s revenue and profit. Though sales growth has been flat, margins have improved significantly. CDEL’s financial services business and tech parks too, were profitable at the operating level in 2014-15 and recorded a double-digit growth.

MindTree is CDEL’s associate company. In 2014-15, its share of profits from Mindtree increased 18 per cent to ₹86 crore. This helped reduce the net loss at the consolidated level. Good earnings visibility of MindTree is likely to play in CDEL’s favour in future too.

 The management has indicated that it will monetise its investment book and plough the profits into the coffee business at the right opportunity.

Published on October 13, 2015

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