pick of the month westlife development limited...

OVERVIEW: Industry: The per capita growth in India‟s disposable income has been modest at ~4% CAGR over 2011-16. However, different market research reports have indicated that through 2016-21, India‟s disposable income per capita is expected to rise by ~8% CAGR to ~USD2,400/capita which is the fastest among several Asian economies as well as developed markets. There are various factors that will fuel the growth, with the urban mass leading the story. The expansion of the urban mass both in terms of size as well income level should be the key driver of growth. The factor of our interest, rise in disposable income directly benefits discretional categories like food services. Emphasizing on the urban masses, about 47% of the country‟s 1.3bn population is upto 24 years of age and about 5.6% of the population is above 65 years. Also the worker dependency ratio in the country is on an uptrend. (Workers: 15-65 age; dependents: below and above 15-65 age). There is a demographic shift seen with people moving to cities due to rising labour mobility and lack of opportunities in rural India. In one of the recent reports from Goldman Sachs, it was indicated that the domestic demand from India‟s millennial will make India‟s consumer story one of the world‟s most compelling for the next 20 years. India today is one of the fastest growing economies in the world. The country‟s economic dynamics are playing out well in force and the impact can be seen: the ever-evolving consumer demands rapid urbanization favourable demographics increased disposable income more women in workspace changing lifestyles and food habits All of these factors have ushered a positive upside to the food services market presenting significant opportunities for industry players. While India is among the largest food services market with an estimated size of >USD115bn on per-capita spends, India is still at a nascent stage. As per the Euro monitor forecast, the market is expected to expand at a CAGR of 11.6% over 2016-20. As per other market research reports, the foodservice sector has witnessed an unprecedented growth and considering the significant contribution it makes to the economy, it is expected to contribute 2.1% of the total GDP of India in 2021. As per the 2014 National Sample Survey Office report, India‟s GDP is expected to triple by 2020; food consumption is expected to rise 4% each year from Rs11trillion in 2010 to Rs22.5 trillion in 2020. In India, the chained food services form a small part of the overall food services market and based on the global experience, it is expected that there should be a rise in India as well. Western fast food (WFF) is still a small portion of overall Quick Service Restaurant (QSR) market which itself is a fraction of the informal eating out industry in India and has huge potential in years to come. (As per the Annual report). The key growth drivers: Expanding middle class Urbanization Youth spending Nuclear families Better logistics Malls and multiplex boom The Food Industry in India can broadly be classified into organized and unorganized segments. Currently, almost the entire USD50bn Indian food service industry is dominated by the unorganised sector. However, the organised food service industry, which stands at about USD15bn, is expected to grow at a 17% CAGR to reach USD33bn, capturing 36% of the total market share by 2020. (As per market research reports). Within the organised food sector, QSR is a fast-growing, price-sensitive and youth-oriented segment.

CMP: Rs. 266 TARGET PRICE: Rs. 350 TIME : 12 months

SNAPSHOT

52 week H / L Mcap (INR mn)

282/152 41,377

Face value: 2

BSE Code NSE CODE

505533 Not listed

Annual Performance

(Rs mn) FY15 FY16 FY17 FY18E

Sales (Net) 7643 8334 9308 10692

EBITDA 152 426 470 781

EBITDA (%) 2.0% 5.1% 5.0% 7.3%

Other Income 165 97 200 185

Interest 102 150 154 193

Depreciation 504 577 637 710

PBT -290 -203 -121 62

PAT -291 28 -121 53

Equity 311 311 311 311

EPS (INR) -1.9 0.2 -0.8 0.3

Ratio Analysis

Parameters (Rs mn) FY15 FY16 FY17 FY18E

EV/EBITDA (x) 277.3 100.0 91.9 55.5

EV/Net Sales (x) 5.5 5.1 4.6 4.1

M Cap/Sales (x) 5.4 5.0 4.4 3.9

M Cap/EBITDA (x) 272.9 97.1 88.1 53.0

Debt/Equity (x) 0.1 0.2 0.3 0.4

ROCE (%) -3% -1% 1% 5%

Price/Book Value (x) 7.8 7.7 7.8 7.8

P/E (x) -142.1 -201.1 -341.4 778.9

Share Holding Pattern as on 30th June 2017

Parameters No of Shares %

Promoters 9,67,27,476 62.17

Institutions 3,42,50,881 22.02

Public 2,45,94,648 15.81

TOTAL 15,55,73,005 100.00

Quarterly Performance

Parameters (Rs mn) Sep-16 Dec-16 Mar-17 Jun-17

Sales (Net) 2,343 2,417 2,249 2,623

EBITDA 118 140 98 137

EBITDA ( %) 5% 6% 4% 5%

Other Income 43 43 60 66

Interest 40 41 37 39

Depreciation 154 160 162 160

PAT -33 -17 -41 2

Equity ( Rs mn) 311 311 311 311

TM

Note: All the data is calculated as per Market Price on 24rd August 2017 Please Turn Over

August 24, 2017 PICK OF THE MONTH VOL-3, NO-15

Westlife Development Limited BUY

Source: Annual Report

OVERVIEW: Industry: (contd.) The organized segment has four sub-segments namely: Full service restaurants Fast Food also knows as Quick Service

restaurants (QSR) Street Kiosks stalls Café & Bars & Pubs The consumer markets are being driven by the country‟s youth population, leading to growth of QSR‟s (Quick Service Restaurant) in India; part of the fastest growing segment in the eating out market. QSR‟s restaurants are where the customers generally order at the cash counter and pay before they eat. Servers either serve food or customers have to collect it themselves. The menu is typically limited to a particular theme /cuisine such as burgers, sandwiches, pizzas and Mexican. Quick service restaurants are specific restaurant types characterised by good fast food cuisine with minimal table service. QSR is the fastest-growing segment in the Indian eating-out market, registering a robust 25-30% annual growth. QSRs both Indian and International have grown over the years, mainly due to their focus on affordable and competitive pricing coupled with catering to growing consumer needs such as convenience, increased appetite and craving for international food types. QSR‟s are successful based on the intangible parameters of: Brand Experience Ambience QSR‟s have the below mentioned formats of operations: Restaurants / Food court counters / Kiosk / food carts / Take away / Delivery / Drive-ins Factors leading to growth of QSR‟s are: Finance: access to capital for innovative and enterprising companies has become easier compared to earlier Demand: changing demographics, increase in income, urbanisation, growth in organised retail and demand for hygienic

food Supply: the Government has improved infrastructure and private investment in cold chain networks across the country

making access to quality Raw material a reality. The Western Fast Food chains (WFF) category has been the key driver of growth of the QSR industry, holding about USD1bn of the USD15.4bn market. With the increasing youth population coupled with growing inclination towards Western fast food, the WFF category is expected to grow on a strong note. The factors favouring the growth of this category includes an evolving demographic profile, rising exposure to international brands and increasing awareness of global trends. (As per market research report). About the Company: Westlife Development Limited (WDL) focuses on putting up and operating quick service restaurants (QSR) in India through its subsidiary, Hardcastle Restaurants Pvt. Ltd. (HRPL). Its restaurant categories include freestanding, food court, in-store and mall stores. The Company operates a chain of McDonald's restaurants in West and South India. (McDonald‟s has two master-franchisee in India – Westlife (in its 100%-subsidiary in West & South and Connaught Plaza Restaurants (unlisted) for North & East). Starting as a JV in 1995, WDL got Development Licence in 2010 – this means that WDL could develop sites at its own cost and pay a specified royalty to McDonald‟s. The Company, through its subsidiary HRPL, operates McDonald's through approximately 261 restaurants across over 30 cities. Its service formats and brand extensions consist of restaurants, Breakfast, McDelivery and kiosks at various transit points. The Company has operations in Telangana, Gujarat, Karnataka, Maharashtra, Tamil Nadu, Pune, Kerala and parts of Madhya Pradesh. The company has Mr B.L. Jatia as the Chairman and Mr. Amit Jatia as the Vice-Chairman.




TM

Please Turn Over

Source: Company Presentation

Source: Market Reports

INVESTMENT RATIONALE

(A) Working through the 100% subsidiary : Hard castle Restaurants Pvt Ltd (HRPL): Increasing urbanisation and growing youth population, with the metros steadily adopting lifestyles that offer convenience, speed and value-for-money, has given a boost to the fast food segment in India. Hardcastle Restaurants Pvt. Ltd. (HRPL) operates in the QSR sub-segment of the informal eating out industry. It is the master franchisee, which operates McDonald‟s branded restaurants in West and South India. The company generates revenues primarily from the sales from these restaurants. The deal: As per the master franchisee arrangement with the McDonald‟s Corporation, HRPL is responsible for providing capital for all the business operations, including the real estate component. The technical, operational and business support is provided by McDonald‟s Corporation. HRPL has the protocol to own or secures long-term leases for all its restaurant sites in order to ensure long-term occupancy rights and control related costs and optimize overheads. As a part of the strategy, HRPL at its restaurants, continuously develops and improves the operating standards, marketing concepts along-with appropriate product and pricing strategies. Finally only those strategies are introduced which are the beneficial to the system in order to deliver great customer experience and drive profitable growth for the company. The focus of HRPL is primarily on the customers by managing operations at the local level, including marketing campaigns, providing special offers, menu management and monitoring the utmost important; customer satisfaction.

Restaurant footprint

The company has a total of 261 restaurants as of June 2017 with 3 new restaurants added in 1QFY18. Going forward, with the commitment of being the most accessible brand, the company maintains the focus on bringing additional footfalls to the existing base of restaurants. It plans to open 25-30 new restaurants in FY18E to serve the future demand; staying on track with the target of taking the restaurant footprint to 450- 500 by 2022.

(B) Strong supply chain and leveraging technology : The backbone of the company is the Supply Chain (SC) built around the concept of „farm-to-fresh‟ model. The SC works on a 100% assured supply strategy, guaranteeing no stock-out at any restaurant. There are sourcing centres feeding resources into strategically-located distribution and warehousing centres (four centres located across each corner of the geographic footprint), which in turn feed various restaurants. The temperature-controlled logistics (cold chains) ensure zero wastage and farm-fresh food. Moreover, the Company also addresses and ensures supply to meet any kind of emergencies. To deal with the price volatility and weather vagaries; the company has initiated contract farming in a small way; leading to price predictability for McDonalds and assured return for the farmers. HRPL has a wide distribution network with stringent requirements on timely deliveries and strict temperature control. There is a swift network carrying material from suppliers to the distribution center (DC) and from the DC to the restaurants. The company also has almost 10,000 sq. ft. of cold storage infrastructure across its strategic procurement and consumption cores. This enables it to capitalise on attractive pricing, stocking for future needs and managing product shelf-life better. Thus, the company is always on toes with respect to the back end support, avoiding any hindrance and vouching for a smooth overall working.

(C) Menu offerings: Value for money The menu is designed as a value-for-money for all socio-economic classes. So while the Happy Price Menu addresses the entry-level, the Maharaja Mac caters to the top-end (full-fledged meal). Closely observed, the menu would have something for everyone. It keeps in mind the taste, affordability and requirement of its customers. Taking it forward, the company has also introduced exotic vegetables into the McDonald‟s supply chain like the new products-the Maharaja Mac and the Indi McSpicy, have introduced green jalapenos and red paprika into the menu items. Moreover, it has also gone for menu customization by providing different bun options, including the focaccia bun and tandoori bun.




TM

Please Turn Over

Source: Company’s Website Source: Company’s Website


INVESTMENT RATIONALE (contd.) The Company serves food across in all day parts, breakfast in the mornings, snacks mid-morning, lunch, snacks mid-afternoon and dinner, with the addition of McCafe for late evening coffee and desserts. This helps in maximizing the resources and utilisation. Happy Price Combos: With the objective of innovation around value, the company introduced the Happy Price Combos to the existing menu. The happy price combos have played well for the company as indicated in the recent quarter results. There have been additions to the products with introduction of Chicken Kebab (Burger & Wrap).

Overall the company believes in the concept of customer first, and all of the innovations and additions are done keeping in mind the same. The control on price hikes has been the key for the growth of the company as it caters to all strata of the society. A strong control on inputs has enabled the capping of menu price increase to maximum of 3-5% even as overall food inflation was on an uptrend; as the intention is value for money for the customers. So any large cost increase (like the recent minimum wages) is passed on gradually over a period of 2-3 years. This definitely puts pressure on the profitability, which has made the company focus on new areas to boost margins, and not hamper the larger interest. (D) Range of offerings, new formats: the new strategy for growth: For any QSR model, one of the key criteria is to have one asset driving another; which is the focus area for the company as well. The company targets to be an any hour of the day brand with the help of new products and offerings round the clock. These include Breakfast, McCafe, McDelivery, Drive-thrus, 24x7 restaurants and kiosks to mention a few of the initiatives of the company. This is lucrative as there is no additional capex required as the existing facilities are used, providing the operating leverage. For example: - where McCafe works for higher margins, McDelivery works on lower operating costs. The company sees a lot of potential in addition of these newer formats that helps it balance out, leading to an overall ramp up in the offerings. (E) Brands extensions: Fuelling the growth ahead: The company has taken various initiatives for brand extensions and increasing its presence and reach to its target customers. (i) McCafe: One of the initiatives in the brand extension foray by the company was the introduction of McCafe in Mumbai in 2013. It serves coffees, desserts, in a separate area inside the restaurants. In terms of opportunity, the Indian Cafe market is estimated to be around Rs6,700cr in 2014, projected to grow to Rs15,100cr by 2020 as per a report by Technopak. The annual per capita coffee consumption in India is at nascent stage; however the industry is expected to see a CAGR growth of ~20% in medium term as per the management. With the launch of McCafe, the company is better placed to attract new customers due to the alternative product range of frappes and smoothies added to the premium coffee. McCafe also offers dessert options like muffins, cakes and cookies. McCafe offers customers a variety of customizable beverages, including lattes, cappuccinos, mochas, hot and iced premium coffees and hot chocolate to mention a few, all through the trained baristas across the different stores. McCafe concept is apt for restaurants in shopping centres and commercial areas. The company has been revamping the look of the restaurants (20-25 restaurants per year) with the introduction of McCafe which has led to increase in sales of the other products as well. There is a strong focus on reimaging existing stores keeping in mind the return on investment. After the reimaging, the restaurants are offering a modern and contemporary experience with modern interiors, digital menu boards, self-service kiosks and various other utility initiatives that also help in optimizing the utility cost. Currently the company has 121 stores in 261 restaurants. The company intends to ramp it up with around 40-50 additions per year with 140-150 expected in FY18E. With the additions of McCafe stores, there should be an overall increase in the revenues of the company.




TM

Source: Company Presentation Source: Company Presentation


INVESTMENT RATIONALE (contd.)

(ii) Breakfast Introduction of the breakfast menu was yet another venture of the company to help its franchisees get incremental footfalls /customers in the mornings between 7am to 11pm. WDL is the only western fast food chain that has a dedicated breakfast menu offering. After a thorough understanding, the company has designed the menu of choice for its customers, to strengthen the any hour brand. The company has kept in mind the Indian touch by launching products like „Dosa Masala‟ and „Double Dosa Masala‟ burgers and Classic and Masala scrambled eggs. WDL currently offers breakfast in 120 of its 261 restaurants. Currently, new breakfast menu is being offered largely in the Mumbai and Pune market at this point in time. With the kind of lifestyle that major portion of the population has adopted, we believe that there is a growing market for an out-of-home breakfast option as well. Definitely this will remain a focus area for growth, but breakfast as a concept is going to take time to actually have a considerable contribution to the business in terms of revenues. (iii) Dessert Kiosk. One of the major and integral constituent of growth for the company has been the Dessert Kiosks. These operate on standalone basis from the existing restaurants, depending on them though for the supplies and operational support. For example, in a mall - restaurant can provide support for many of the Dessert Kiosks located in different locations throughout the same mall. Dessert Kiosks are strategically located to attract customers, an effective method adopted by the company for extending the brand presence. Dessert Kiosks, offer customers a variety of dessert items, including the popular McFlurry and soft-serve ice creams. These require low capital expenditures but are high on the ROI. Being economical and having a variety to offer, these are an important drivers in increasing the market penetration of the company.

(iv) McDelivery: Extension to homes: Yet another initiative to build on the competitive advantage, WDL strengthened its convenience offerings by optimising and ramping up the delivery business. McDelivery™, the brand extension, following the global footprints was successfully launched in India in the year 2005. With the launch of McDelivery™, customers have the convenience to enjoy McDonald‟s products in their homes. McDelivery is available through web ordering, mobile app and call centre facility. Increasing usage of smartphones has led to the huge success of the application, implied through the fact that the proportion of online orders has increased from ~7% to ~50% currently. WDL also offers a 29-minute assured delivery system compared to the 30-minute famous commitment that Domino‟s offers, the difference being that WDL charges Rs25 per delivery for all kind of orders. The company has also tied up with food aggregators like Swiggy, Zomato and Food Panda for delivery. Overall, McDelivery is margin accretive led by the delivery charges and differential pricing strategy. McDelivery has the potential to further expand with more outlets and newer stores continuing to have McDelivery depending on the feasibility, definitely providing opportunity for growth from the current levels and also help increase margins and enhance the return ratios.




TM


Source: Company Presentation Source: Market Reports



INVESTMENT RATIONALE (contd.)

(F) Restaurant Operating Platform (ROP) 2.0 to generate better returns : WDL came up with the concept of ROP 2.0 platform with the aim to reduce store opening costs as well as other routine operating costs. This was initiated in 2016 for all the new stores that were started with a revamped restaurant design, store layouts and operations innovation as well as equipment localisation. The discipline of ROP worked around restaurant design, equipment options and operating costs. WDL went for equipment localization, starting with localised kitchen equipment, revamped store interiors with localised chairs, tables, etc. which led to 20-25% savings on capex per new store. For saving on the operating costs measures were taken for energy savings. The initiatives paid-off very well indicated through the fall in the operating costs. Overall, ROP 2.0 was a success for the company helping it to reduce the average development cost and also reduce break-even of cash, further leading to improvement in restaurant operating margins. All the new stores are being built under this platform and the company gradually intends to transform the existing stores on this new platform as well.

(G) Encouraging results through the platform: Where does the company stand on the 2022 vision WDL aims to touch mid to high same-store sales growth

or SSSG by 2022 and achieve EBITDA margin in early or mid-teens.

Increase McDonalds store count from 261 currently to 450-500 stores across more than 40 cities.

Increase stores having McDelivery from 124 to 300-325 by 2022.

McCafe expansion from 121 to 300-350 outlets. Achieve savings of Rs1.2bn-Rs1.5bn in capex by reducing

capital cost per store by 20%. To reduce restaurant break-even period from 18-24

months currently to 12-18 months. Target cash ROI of above 20% in 18-20 months. Make investment of Rs.5bn to set up restaurants Achieve sales growth of 2.4x-3.0x from current levels Above are mentioned some of the targets that the company has set for itself reaching 2022. It is encouraging to see that the company is very much on track towards achieving the same (H) Recent development: Positive for the company Development: In one of the recent developments, McDonalds has terminated the agreement with Connaught Plaza (CRPL), its franchisee for North and East India, which has been facing issues for a while now. CRPL has been facing legal issues since 2013, after McDonalds alleged Mr. Vikram Bakshi CRPL CEO had breached the contract terms and was also alleged of wrong doings by McDonalds. Recently, NCLT had reinstated Mr Bakshi as the MD of CRPL. Current status: McDonalds has reportedly terminated its franchise agreement with a 15-day notice citing material breach of terms, which CRPL intends to appeal. Benefit to WDL: When compared to WDL, noted in 2013, WDL and CRPL were on the similar count of stores, of about 155 each. Impact of the legal issues was seen in the operations of CRPL with the current stores being only at 169 stores, of which 43 were recently closed due to non-renewal of license. In comparison, WDL stands at a strong 261 outlets with better offerings and experience backed by technology and growth format. The likely scenario would be that McDonalds would attempt to reach a settlement with CRPL due to the ready network. If there is a start fresh mode then it would take another 3-5 years to actually reach the current levels bearing in mind the current economic scenario and competition. This tilts the situation positive for WDL as consolidation would give the booster to continuity of relationship. Not only that, WDL will be aptly placed to benefit from the scale up opportunity. Financials: Same store sales: With the growth strategies in place, the company has been able to gradually improve on the sales growth and the same store sales as well. Consistent results are driven by the brand advertising, menu innovation and brand extensions. The SSSG in 1QFY18 stands at 8.7% which is the highest in last 8 consecutive positive quarters. GST to be beneficial: With implementation of GST from 1st July 2017, the company will not only garner the benefits of uniformity in tax rate throughout India but also enjoy the logistic benefits.




TM


Financial (contd.)

With the addition of more stores, this improvement should continue for the company going forward Improvement in margins: There has been a gradual improvement seen in the margins of the company backed by the operating efficiencies and effective supply chain management. Brand extensions such as the McCafe and McDeliveryTM facilitated an improvement in the overall gross margins. These would be the focus areas for the company in terms of expansion of margins. Risks and concerns:

Slowdown in the economy and rise in inflation: This can impact the food industry as it is related to the disposable income of the customers. Also an increase in inflation would lead to pricing pressures.

Consumer sentiment: weaker consumer sentiment could impact the discretionary nature of the products offered by the company.

Increase in competition: New players trying their hands into the food industry with delivery at lower prices could be negative for the company.

Health conscious approach: With the increase in the health awareness, customers may seek healthy options which could impact the company.

Supply chain: Any disruption in the supply chain can adversely impact the supply of ingredients to the restaurants and the freshness of finished products.

Manpower dependence: The QSR industry has high dependence on manpower and this is critical for the success of WDL. In case of higher inflation, it could actually eat into the margin expansion assumption

Rise in royalty: As per the agreement with McDonald‟s, WDL pays a specified royalty which was supposed to rise at a pre-determined rate. Any increase in this would impact the company profits.

Outlook and valuations: With the key understanding that customers in India will prefer McDonald‟s stores due to value for money, accessibility, brand , and a desired combination of food and beverages; leads to WDL being one of the key beneficiaries of the growth consumption story. The company continues to build the business on the four strategic levers being broadening accessibility, growing the baseline, margin expansion and growth through people. We believe that the lifestyle changes are bound to be intact; rather the transformation would be faster in terms of eating out with change of taste adopted. All of this should benefit one of the most economical quality products offering player. Keeping in mind the positive scenario and the well-established positioning of the company in the industry, we initiate a BUY on the stock with a target price of Rs350 over a 12 months horizon.




TM

Source: Company Presentation Source: Company’s Website

Source: Annual Report

TM

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