My daughter’s passion for tennis is ensuring that I travel every alternate weekend to accompany her to tournaments. While wins are not always on the cards, we do get to spend a lot of time together, especially over coffee and cakes! On one of my recent visits to a Café Coffee Day (CCD) outlet in Nashik, I was surprised to see that the cafe was full. My subsequent visit to Kolhapur reiterated the same thesis with the outlet witnessing a regular stream of visitors. The reason I mention Kolhapur and Nashik is because the cafe culture in South Mumbai is not representative of other parts of India and, hence, the time spent in Nashik and Kolhapur was an eye-opener and gave me the belief that, maybe, CCD has got something right.
Mentally I made a note to thank my daughter — for she was the reason that I engaged in some primary and secondary research into one of my most hated investments! Coffee Day Enterprises had gone public at Rs.325 in 2015, and since then the stock price has done nothing. Four years with no return in a market that has produced several multi-baggers, means a lot of disappointed folks like me. However, after you go through the details below you will be just as convinced as I am that you can’t buy happiness, but you can buy coffee and, for an investor, this brew at Rs.287 a share might just be the shot of happiness that the doctor ordered.
The Inside Brew
Headquartered in Bengaluru, Coffee Day Enterprises (CDEL), the parent company of the Coffee Day Group, is an organisation with diversified business interests in the areas of coffee, technology parks, logistics, hospitality and financial services.
With a sprawling network of over 1,750 CCD outlets spread across 241 cities and towns in India and 537 Coffee Day Xpress kiosks, the company has come a long way since it opened its first outlet in Bengaluru in 1996. But it has not been easy for the company and the past six years have been a roller-coaster ride.
The company, to begin with, has diverse business segments. The coffee business under Coffee Day Global includes vending business and retailing of coffee products across various formats. Apart from cafes and kiosks, the company has about 415 Fresh and Ground Coffee retail stores and 41,845 vending machines that dispense coffee in corporate workplaces and hotels under the brand. There are four retail formats that Coffee Day operates: Coffee Day Express, a small kiosk which serves coffee to go; Café Coffee Day, a larger format store which is around 1,000-1,200 sq ft; Coffee Day Lounge, which is, typically, around 2,000-2,500 sq ft and Coffee Day Square, which imitates a fine dining restaurant, occupying up to 3,500 sq ft.
In logistics, the company owns a majority stake (52.83%) in Sical Logistics, which was acquired in FY12 for around Rs.2.40 billion. Sical is a multimodal logistic player engaged in container and bulk cargo, mining and transportation, port terminal and supply chain solutions. Revenue from this business stood at Rs.13.55 billion in FY18 and Rs.4.14 billion as of Q3FY19.
Coffee Day also owns Tanglin, a wholly-owned subsidiary, that develops technology parks in Bengaluru (Global village) and Mangalore (Tech bay). Gross revenue from this division stood at Rs.1.49 billion in FY18. Currently developing and operating a Special Economic Zone in Bengaluru and a technology park in Mangalore, the company has let out 3.9 million sq ft and has additional 6 million sq ft ready to let out
Within financial services, the company owns 85.53% stake in subsidiary Way2Wealth Securities, which is a retail-focused investment advisory company with a pan-India branch network.
Besides, the company, which recently sold its stake in Mindtree for over Rs.27 billion, continues to hold strategic investments in Global Edge Software, Magnasoft and Ittiam Systems. Under the brand, The Serai, the company directly owns and operates luxury boutique resorts, and two others through subsidiary, Coffee Day Hotels & Resorts
What Went Wrong
Over FY12-FY14, the company was on an aggressive store expansion mode and opened around 500-plus stores. Small size outlets (300-500 sq ft), without washrooms, and higher rentals on renewal of leases of its cafe network led to sub-optimal customer experience and poor financial performance. While topline rose from Rs.10 billion in FY12 to Rs.15 billion by FY15, it slipped into the red to Rs.140 million by FY15.
There were multiple but unsubstantiated allegations regarding over-billing, pressure on employees to meet targets and a worsening employee morale and culture. Issues with income tax raids on Café Coffee Day (CCD) and a disclosure of Rs.6.50 billion concealed income added pressure. The matter has since been under scrutiny and the company remains confident of addressing all the queries
Significant debt in the balance sheet (Rs.45 billion) is weighing heavy on its financial performance. Besides, increasing competition from new entrants vying for millennial attention, increase in the penetration of global players and growing popularity of individual themed cafes further complicated the landscape.
Triggers Going Forward
Over the past two years, the management has undertaken a restructuring exercise, closing down unviable and small 160-plus stores and, thereon, the focus has been on opening larger stores and renovating older stores. The move paid off with the company swinging back into black, clocking Rs.260 million and Rs.490 million in FY17 and FY18, respectively.
About half of the proceeds from the Mindtree stake sale could be used to pare down the company’s debt. There are discussions of selling the Tanglin business as well and, eventually, demerging the retail business to enhance shareholder value. The company has taken steps on a pilot basis to improve average sales per day (ASPD) by launching an all-day menu, milk shakes, assembling food in-store. With a revamped menu, more food items, advertising, and tie-ups (Uber Eats) and a revamped brand strategy same store growth (SSG) at around 12% and ASPD (around Rs.16,100) indicate that the metrics are improving steadily.
Steady growth in the cafe vending business generates high operating margins of over 30% and is scalable given that the capex cost involved for a buyer is less than Rs.0.15 million. The sum-of-the-parts valuation and peer comparison prove beyond any doubt that the “coffee business” has not got its fair valuation on account of multiple reasons. While Jubilant FoodWorks and Westlife Development, which owns the McDonald’s franchise, are trading at an EV/Ebitda of 24x and 30x for FY20, Coffee Day is trading at a huge discount. However, all of that is about to change with various triggers in place. Like the tag line goes, “A lot can happen over a coffee,” so do I believe that good times are in store for the cafe chain and the next two years will make up for the agonising past.
The author has a position in the stock