Devyani International IPO — A Look at the QSR Industry In India

As long as we’re drifting along the IPO sails, here’s one more gush of wind.

Devyani International (DIL), one of the largest quick-service restaurants (QSRs) in India, the largest franchise of Yum Brands in India, and the operator of chains like KFC, Pizza Hut and Costa Coffee in the country, opened for IPO on August 4th.

Quick Facts

• IPO Size: ₹1,838cr ($248.3m) : Fresh Issue (₹440cr ($59.4m)) + Offer for Sale (₹1,398cr ($188.8m))
• Price Band: ₹86–90 ($1.2)
• Market Lot: 165 shares
• Offer Allocation: QIBs (75%), NIIs (15%), Retail Investors (10%)

By the end of the last day of bidding (August 6th), the issue had been subscribed 116.71 times (QIBs: 95.27x, NIIs: 213.06x, Retail: 39.51x).

The company has also been successful in collecting ₹825cr ($111.4m) from anchor investors at the upper price band. The grey market shares were also trading at a healthy premium of ₹60–65 which indicates a gain of 66.7–72.2% over the issue price.

Company Profile
DIL is a franchisee of Yum! Brands which operates brands like KFC, Pizza Hut, Costa Coffee and Taco Bell (696 stores combined across 166 cities in India). Yum! Brands also has a sizable presence outside India with 50,000 restaurants in over 150 countries.

In addition, DIL operates its own brand of products — Vaango, Food Street, Masala Twist, Ile Bar, Amreli and Ckrussh Juice Bar. DIL is also an associate company of RJ Corp which is the bottling partner of Pepsico. Thus, DIL’s interests extend into the retail food and beverage (F&B) sector too, in addition to franchise operation.

The diversified portfolio of DIL and its operation in multidimensional business verticals gives it a strong core value proposition. The QSR segment is fast-growing (expected to grow at 12%+ CAGR from 2020–2025) presenting a huge potential for the company which holds an obvious advantage with its coterie of highly recognised global brands that cater to a range of customer preferences.

However, the competition in the sector is fierce, with rivals like Dominos, McDonald’s, Subway, Haldiram’s, Smoking Joe’s and Burger King India (which went for its own IPO last year). This explains the operation of DIL in a highly competitive landscape as evidenced by net income losses, despite fairly solid gross margins.

Company Financials
Historically, retail QSR is one of the popular growth businesses that is seen when the success formula in one region is replicated in others. Good returns on investment earned in the sector is used to reinvest into new stores across the country to compound capital.

DIL has been recording losses for the last few financial years. However, most of those losses resulted from high operating costs incurred towards store expansion. The lockdowns had a part to play as well, by diminishing the company’s ability to recover these costs but high opex investments are very much a sectoral theme. Consolidated gross margins are at a lofty 69% and it is below the line expenses (fully warranted in the ecosystem given the growth runway) which are a drag on the bottom line margins.

Not to forget that the company remains placed with long-term growth in light of its diversified portfolio of global brands, cross-brand synergies, ongoing expansion of store networks and a solid c. 20% EBITDA margins. If the stock trades on an EBITDA multiple, which is highly likely, there still might be meaningful upside potential in the stock, despite an already 60x+ EV/EBITDA, driven entirely on the EBITDA growth cadence in the offing.

Plus, based on the upper price band in the IPO, DIL is valued at 9.54x Price/Sales, a discount to listed industry peers like Jubilant Foodworks (12.9x), Burger King India (14.4x) and Westlife Development (8.81x).

DIL has also been focused on expanding the business of its core brand businesses (KFC, Pizza Hut and Costa Coffee) which grew at a CAGR of 13.6% from 469 stores in FY19 to 605 stores in FY21.

The expansion has been made possible on account of the cluster-based approach to address demand in high potential areas like Delhi-NCR, Bengaluru, Mumbai and other metropolis locations. Presently, over 84% of the company’s revenue from operations is attributed to its core brand businesses.

The QSR Industry Overview
Restaurant businesses that operate as chains are estimated to witness a faster growth in India as compared to the independent ones. Plus, the relatively higher dependence on takeaway transactions compared to other channels helped QSRs recover quicker after the lockdowns. Indian QSR channel grew at 5.5% CAGR from 2020 to ₹2,854.8bn ($38.5bn) by 2025 and is further estimated to grow at 12.4% CAGR from 2020 to 2025 driven by steady growth in number of transactions as well as outlets.

With the advent of contactless dining operations, takeaways and cloud kitchens, industry peers are beefing up their businesses through innovative product designs and offer experiences — like Contactless Ordering (KFC), Vegan Launch (Domino’s), Meal-in-Box (Barbeque Nation), Vending Machines (Chai Point), DIY Meal Kits (Social) etc.

Both KFC and Pizza Hut have maintained their ubiquitous presence in Indian QSR segment due to their early entry in the market and signature menu offerings. However, there are quite a few competitors out there (as mentioned above) which compete on the basis of product and service quality, price, location, consumer tastes, demographic trends etc.

Rapid urbanisation and proliferation of the internet may have spurred the growth of QSR businesses in the last few decades but the chief drivers of their growth in the coming years will depend on more rapidly changing factors like menu innovations and technological capacity building.

For instance, KFC’s QR code-enabled contactless dining experience made it a popular highlight in its post-lockdown operation. It’s signature products (e.g. Rice Bowl, Fried Chicken) have also remained key to the success of the brand.

Although industry peers haven’t marginalised DIL’s business, they do maintain a solid market presence all the same. Domino’s (Jubilant) has twice the throughput of Pizza Hut (DIL) which reportedly puts it at the top in terms of EBITDA margin. The store throughput was built over years of superior execution tactics and better capex efficiency.

When it comes to burgers, KFC’s current store-level is 21% lower than McDonald’s (Westlife). The latter has performed well on gross margin expansion. Similarly, Burger King India, even though a late entrant, has capitalised well on its expenses.

In the coffee and tea shop category, DIL’s Costa Coffee has cut down store numbers by 23% in the last two years which has translated into reduced footprint. During the same time, Starbucks has added 75 new stores. The coffee and tea shop channels are also heavily dominated by independent operators (chain operators hold a combined market share of only 4.4%) which makes it a limited play field for QSR players like DIL.

It is, however, remarkable that all peers from the F&B business have had huge listing gains in the past year which could make investors bank on the w

(Originally published August 11th 2021 in transfin.in)