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SSSG weakness continues to drag profitability

Devyani’s 3QFY24 earnings were below our forecast with underlying construct broadly similar to previous quarter. Same stores sales/ADS saw further moderation for KFC & PH – management cited sluggish demand, impact of geo-political crisis on US brands and higher competitive intensity (for PH). On the positive side, Costa Coffee performance was relatively resilient as airport stores did well due to favorable travel season. GM continue to track well - function of benign RM; however, scale-deleverage/currency devaluation (Nigeria) led to compression in operating margins. In terms of outlook, while operating scenario remains challenging, management expects weak consumer sentiment to be short lived and is hopeful of demand recovery in the next few quarters. While management remains positive about its Thailand acquisition (strong market position, better ADS, opportunity to expand store, premiumise & levers to expand margins), it is not indicative of change in aspirations or concerns on large India opportunity. Inline with sector, we expect the stock to remain under pressure due to lack of near term triggers. From long term perspective, we remain positive on QSR opportunity and RJ Corp’s execution capabilities to tap the same. Maintain BUY.

Below estimates – SSSG decline in KFC & PH and scale deleverage drove earnings miss: Consolidated sales of INR 8.4bn, up 6.6% yoy (store count +23%) and down 2.9% qoq, was c.6% below our estimate. India sales grew 9% yoy (store count +24%) while International business sales declined 24% yoy (store count +14%), impacted by inflation & currency devaluation in Nigerian business. Same store sales declined for PH (-12.6%) & KFC (-4.7%) – function of sluggish demand, impact of geo-political crisis on US brands and higher competitive intensity in case of PH. Costa was relatively much resilient (SSSG +5.9%) due to higher salience of airport stores which did well. GM expanded by 127bps yoy (led by easing of input costs across KFC and PH) to 70.6%. However, scale deleverage resulted in c.290bps decline in brand contribution margins to 15.4% (flat qoq). Corporate OH as a % to sales were higher than trend seen in recent past, at 6% vs 3.5% in 3QFY23 and 3.8% in 2QFY24; includes INR 120mn impact of Nigeria devaluation. Net-net, PreIND AS EBITDA margin compression was higher at 549 bps to 9.3% (JMFe:12.1%).

Store additions remained healthy, muted same store sales impacts contribution margins across brands: 1) KFC India revenues were up 14.1% yoy led by store additions (+28% yoy). ADS was down 10.3% yoy/4.6% qoq. GM expanded 179bps yoy as input costs remained favorable. Scale deleverage resulted in brand contribution margin compression of 74bps yoy to 19%. 2) PH India sales declined by 2.2% yoy impacted by increased competitive intensity & downtrading. Corrective actions (brand spends, focus on premium range & scaling down of certain offerings in Flavor Fun) undertaken should help revive SSSG. GM expansion was strong at 214bps to 75.8% due to benign input costs. Scaledeleverage & higher marketing spends, however, resulted in EBITDA margin compression of c.800bps yoy to 6.1%. 3) Costa Coffee sales were up 36.4% yoy led by store additions even as ADS was down 5.4%. Gross margin was down 60bps yoy to 77.2%, while contribution margins at 14.9% (-1160 bps yoy and flattish qoq) surprised negatively.

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