Cheese burst: Quick service restaurants see muted growth ahead

• The rise in cheese and wheat prices affected the Q4 profits of companies that operate Pizza Hut, Domino’s and KFC.
  
• The companies say that consumer sentiment is weak, and do not see it changing in the near term either.
  
• QSR companies are working on value products and have ruled out price hikes, especially in the pizza category.
  

Indian quick service restaurant (QSR) operators – Devyani International and Jubilant Foodworks both reported a year-on-year (YoY) fall in net profit in the fourth quarter, hurt by a rise in input costs. In the last one year, prices of the key ingredients of pizzas and burgers i.e. cheese and flour went up by 40% and 21%, respectively.

The companies operate franchises of Pizza Hut, KFC, Domino’s, Costa Coffee and more. While KFC was able to raise prices marginally by 3.5% during the year to pass on some of the rise in poultry prices, pizza, which is a high-value category, leaves little room for price hikes. Operators of Pizza Hut and Domino’s have consciously not taken a price hike in the pizza category, and don’t see them going up in the next few quarters either.

In addition to raw material inflation, the operators’ ability to increase prices during the same period were also low as Indians cut back on their discretionary spending. While Q4 is a seasonally weak quarter for QSRs due to the effect of festivals like Navratri and Ramadan – when people undertake fasting, the consumer sentiment is also weak, say analysts.

Company	Q4 Net Profit	YoY change	Q4 Revenue	YoY change
Jubilant Foodworks	₹28.54 crore	-70%	₹1,269.85 crore	8%
Devyani International	₹59.87 crore	-21%	₹754.97 crore	27.8%

Source: PTI

Pizzas harder hit than burgers

Devyani’s same-store sales growth (SSSG) — which measures the sales of its stores that existed for over a year — went up a marginal 2% for KFC. For Pizza Hut, SSSG declined by 3.2% year-on-year, as per a research report by Nuvama.

Sapphire Foods, which also operates Pizza Hut and KFC, showed similar growth in Q4. SSSG for its KFC outlets grew 2%, while Pizza Hut outlets saw it decline by 4%. The management has also guided for a tough year ahead in terms of growth.

“Management expects 5-7% SSSG for Pizza Hut over next FY25-28 while FY24 would be challenging. Management expects Pizza Hut restaurant EBITDA margin would be in the range of 10-11% if SSSG stays positive,” says a Centrum report on Sapphire Foods. EBITDA refers to earnings before interest, taxes, depreciation and amortisation.

The commentary from Jubilant Foodworks’ management is not encouraging either. “As per JFL, from a consumer sentiment perspective, things won’t change anytime soon,” said a Nuvama report. As the company expects cheese prices to remain high in the coming future, it is working on a value range of products to tide over the dual impact of rising input costs and weakening sentiment.

“The decline in average order value (AOV) is not driven by value launches but by inflation. This gives the company confidence that once sentiments improve, there will be natural up trending,” said Nuvama.

Vijay Jain, the chief financial officer of Sapphire Foods, hopes for a recovery in the next one year. “While the demand conditions have impacted those transaction growth, we believe we are at the bottom of it. Hopefully, we believe that over the next 12 months, we should start seeing some small amount of recoveries where we can gain our restaurant EBITDA margins back up by a few basis points, if not more,” he said on an earnings call.

Long-term opportunities seen

In addition to these pressures, local competition who offer aggressive discounting and cannibalisation is also affecting the sales of high-value products across the QSR segment. Yet, analysts see all these factors only as short-term pain.

“We believe there are strong long-term opportunities in QSR and Jubilant Foodworks with its moats is poised to take advantage of the same. After a steep stock price correction of around 25% from its peak, valuations appear reasonable,” says Motilal Oswal, reiterating its ‘Buy’ rating on Jubilant stock.

A Nuvama report on Jubilant also hopes that its SSSG will improve as urban demand sentiment improves. Devyani is seeing a marginal improvement in demand over the last 45 days, the research firm says, adding that initial signs say that inflation is stabilising. Nuvama’s medium-to-long term outlook for Devyani’s SSSG is 5-6%.

“We like online players such as Swiggy, Zomato and soon to enter Amazon, and see them positively expanding the overall dining-out and ordering market. Also, while promotional and marketing spends will continue to remain elevated, we do not see that denting JFL’s margins,” it said.

Centrum says that Sapphire Foods has reworked its strategy to fit the improvement in dine-ins as opposed to delivered sales. “With strong management, besides sharp improvement in its execution capabilities, we expect turnaround in SF’s performance. However weak demand, incremental competition in chicken QSR, and rising inflation in chicken/dairy pose short-term challenges in our view,” says Centrum.

Although the post-pandemic boom effects have been vanishing from many discretionary items, analysts believe that there is value in the expansion strategies that many QSR players have adopted, especially in the long term.