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We downgrade Jubilant Foodworks Ltdto Hold as the current valuation (45x 1-yr fwd) offers limited upside. Our previous Buy rating (anti-consensus with 65% Sell ratings) was premised on (i) the availability of levers to manage a downturn better (faster store expansion, higher discounting to utilise high margins) and (ii) valuations not commensurate with the strong long-term growth that we believe is intact. Over the last six months, Jubilant has successfully grown faster than its peers and management has increased guidance for new stores. While execution remains robust and the opportunity still large, the 6m outperformance vs. Sensex (23%) and current valuations offer limited upside.
Company has been utilising levers to prop up growth, resulting in sector leading SSSg numbers
New store opening target for FY14 was raised in line with our estimates. In the Q2FY14 conference call management increased its guidance on store expansion from 125 to 135 for FY14. We always believed that the company would do that considering that management has identified locations for at least 1,000 stores. We highlight that the company still opens 50% of the incremental stores in the top 10 cities itself (which have c75% of the total stores)
Product discounting. The company has offered heavy discounting such as Wednesday one on one free, and new launches and activations (e.g. Lebanese rolls and the new Pan Pizza). It has thus managed to engage the customer, resulting in higher-than-average SSSg (same store sales growth).
Is there an option value being given to a new possible franchise? Probably yes.
In its last conference call management indicated the possibility of a new third franchise being added and we believe the market could be assigning an option value to it. The Dunkin’ Donuts announcement led to a c8% increase in JUBI’s share price in the following week. Although we believe in management’s execution capability, a new franchise does not instantly guarantee success. We see three key factors: opportunity size/category dynamics, agreement flexibility (which proved valuable for Dunkin’ Donuts), and royalty, etc.
Is the environment improving or base effect going to support SSSg? No.
We believe the operating environment continues to deteriorate, with SSSg still trending lower. Four store closures announced by Specialty Restaurants in the last few months underscore the poor environment. While we are aware that the company will hit a low SSSg base from Q4FY14, we do