Investment Focus - Jubilant FoodWorks: Sell

The stock of Jubilant FoodWorks (Jubilant) has had a good run, up 41 per cent from January 2011. However, most of the growth potential in the company appears to be factored in already. At Rs 907, the stock trades at a whopping 73.2 times trailing twelve-month earnings and 57 times estimated earnings for FY-12. While not strictly comparable, valuations are at a premium to most retail and FMCG players.

The company, which operates the Dominos chain of pizzerias, may find it hard to keep up a high pace of growth to match valuations. Investors can thus take advantage of the price run-up and sell their holdings in the stock.

Growth moderation

Revenues have clocked a compounded annual growth of 48 per cent in the past three years with net profit growth at 105 per cent. High profit growth rates could be tempered going forward due to a few factors.

The company had paid off its entire debt using funds raised from its public offer in 2010. The savings in interest outgo will no longer boost profit growth FY-12 onwards as was the case for much of FY-11.

A part of the growth can also be attributable to a low base which may peter out.

Jubilant, having fully written off in FY-11 all accumulated losses which had greatly reduced the tax outgo, will move into a full-tax bracket. The resultant rise in taxes paid could dent profits; the quarter ended June 2011 saw tax outgo more than triple. Net margins dropped to 10.6 per cent in the June 2011 quarter from the 11.3 per cent in the June 2010 quarter, even as operating margins were improved.

Persistent high inflation could dent discretionary spends by consumers, in especially the sizeable middle-income segment, the main demand driver for companies such as Jubilant. Outgo on raw materials such as cheese, flour and vegetables may rise further; the June 2011 quarter saw input costs increase 66 per cent. While operating margins have so far been maintained by taking on price hikes, consumers may be less willing to absorb rising prices with their everyday food and fuel bills spiralling. The company has already raised prices by 5 per cent this year with another 2-3 per cent hike imminent.

Competition abounding

The Dominos chain also faces stiff competition from other pizza houses such as Pizza Hut, besides other restaurants and food chains such as KFC, McDonald's and Barista. With India beckoning other international players, competition is only likely to heat up further.

Finally, the positive sentiment generated by Jubilant kick-starting its Sri Lanka chain and its tie-up with Dunkin' Donuts to open outlets in India also appears a tad exaggerated as neither venture is likely to make any significant profit contributions even by FY-13.

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