After receiving a good response to the initial public offering (IPO) in May and touching a high of Rs 227 on June 14, the Speciality Restaurants' stock touched its three-month low of Rs 155.25 on August 31 (close to its IPO price of Rs 150). However, the stock has recovered by 17 per cent to Rs 182 since then on value buying.
Jubilant FoodWorks (operates the Domino pizza chain in India), which was trading at 36 times one-year forward (FY14 estimated earnings) during Specialty's IPO, has become even more expensive at 38 times. However, Speciality's valuation of 34-36 times (based on FY12 annualised earnings), which was considered expensive during the IPO, currently trades at 28 times FY14 earnings.
Analysts say that Speciality's valuation factored in the concerns of slowdown and thus the stock also recovered sharply. Also, baring the near-term blip due to the ongoing slowdown, the company's long term growth story remains largely intact.
Slowdown bites...
The company's performance in the June 2012 quarter slipped compared to FY12. Net sales growth of 13.4 per cent in FY12 slowed down further to 12.4 per cent year-on-year despite June quarter being the summer vacation time. This indicates that slowdown has had its impact on demand for discretionary spends, including cuisines like Chinese food. Speciality Restaurants operates the Mainland China chain of Chinese restaurants wherein its strategy is to offer five star food at non-five star price, which though is still costlier than a typical fast food restaurant offering Chinese food.
Operating profit margin came under further pressure with the same dropping 442 basis points year-on-year to 20.1 per cent as costs increased at a faster rate. But net profit margin fell by a lower rate of 133 basis points to 12 per cent thanks to lower interest costs (debt to equity ratio stood at just 0.3 times) and taxes. The company undertakes price hikes twice a year or depending on inflationary pressures and is able to entirely pass on cost escalations within six months. Hence, the disappointing performance of the June quarter should correct in the coming quarters.
The festive season should also support its financial performance. In the longer run, the company expects its employee cost and rent (together forming 36 per cent of sales in June quarter) to decline with economies of scale and cost rationalisation, which augurs well for profit margins.
…but reasons for recovery
Like Jubilant FoodWorks, the company also benefits from rising incomes, growing aspirations and change in eating habits of Indian people. The restaurants business is increasingly moving towards the organised players. According to the company's presentation in August, "While the total industry worth Rs 43,000 crore in 2010 is expected to grow at a CAGR of eight per cent till 2015, the organised segment is expected to grow at a faster pace of 30-32 per cent and hence its share is likely to jump from 16 per cent to 45 per cent in the same period."
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This is positive for players like Speciality Restaurants. The company has developed a strong brand recall in Chinese food with its flagship brand Mainland China (62 per cent of revenues) and strong presence in western India (41 per cent of revenues) where eating out is most frequent.
The share of Mainland China, which fetches higher margins than other brands, in overall revenues is expected to only improve going forward as the company plans to open 32 restaurants under the brand out of the total 45 targeted in the next three years. This will provide good support to the company's future performance both in terms of sales growth and margins. Analysts expect the company's sales and profits to grow by about 13-15 per cent and 25-30 per cent annually during FY13 and FY14.
However, from the stock's perspective and given the valuations, there is little room for disappointment at current levels. Hence, investors looking at accumulating the stock from a long-term perspective should closely monitor the financial performance.