Underweight on Jubilant as margins pose downside risk

Updated: Feb 6 2013, 06:43am hrs

We maintain underweight on Jubilant Foodworks as Q3FY13 was below expectations and the management lowered same-store sales growth (SSSG) guidance for FY13 to 17% (from 19% in nine months of FY13). Our earnings estimates for FY13/FY14 are revised down by ~5-7% as we build in lower margin assumptions.

Valuations at 53x FY13e P/E and 37x FY14e P/E look expensive. Uncertainty on demand/comps and/or margins poses downside risk to earnings and could strain the current high valuation multiples. As a result, we reduce our September 2013 price target to R1,100 (R1,180 earlier), which is based on 30x one-year forward earnings.

The target multiple is at a ~35% premium to the regional/global quick service restaurants (QSRs) peer average, which reflects Jubilant Foodwork's high growth and attractive return profile.

SSS growth moderated to 16.1% during Q3FY13, coming off from 20-30% seen over past four quarters. The management noted that the pace of frequency of consumption by existing customers had stagnated, and acquisition of new customers was moderating. It sounded cautious on consumer sentiment, which remains subdued in the current inflationary environment. It lowered its SSSG guidance to 17% (vs 18% earlier) for FY13. However Jubilant maintained its store expansion target for Dominos Pizza at 110 for FY13 (87 added in nine months of FY13).

Ebitda margins declined 150 bps y-o-y on account of higher promotions and expenses for Dunkin Donuts stores. Losses for the Dunkin format affected margins by ~80 bps. Gross margins declined 30 bps y-o-y on account of higher RM inflation and increased promotions.

A moderate increase in employee costs was negated by a higher increase in rentals, service tax, marketing expenses and other expenses. In our view, key factors influencing margins going forward are the levels of promotional activities, initial losses for the Dunkin Donuts format, and RM, rental and employee inflation trends.

Online sales have been on a steady increase and the contribution to delivery sales was 14.6% in Q3. Capex for FY13 is expected at ~R1.4-1.5 billion for Dominos and ~R150 million for the Dunkin format.