India’s stock market is one of the worst performing in Asia this year as the introduction of retrospective taxes on foreign funds and the postponement of a land acquisition bill continue to weigh on investor sentiment. The Sensex has added 1.1% year-to-date but is up 6.6% on a year-on-year basis.
Coffee Day is looking to raise Rs11.5 billion ($180 million) but has yet to specify how much of a shareholding it is selling through the IPO. According to Indian listing rules, a company is required to sell an interest of at least 10% if its post-IPO market capitalisation is above Rs4 billion.
It is also unclear at this point whether some of the company's existing shareholders will seek to offload their stakes. Coffee Day founder V. G. Siddhartha is the largest stakeholder with 54.78% interest, while US private equity firm KKR owns a 3.43% stake.
The business
Coffee Day operated 1,472 outlets in India under the brand “Cafe Coffee Day” as of the end of last year. It drastically increased the number of outlets by 114 in the first three months of 2014 but closed down another 96 in the following nine months.
In its red herring prospectus -- a preliminary IPO prospectus that contains neither price nor size details -- Coffee Day said the closures were due to business optimisation as it shut down some outlets due to their smaller size, lower levels of performance, and high rental renewal.
Apart from its quick service restaurant business, the group also owns luxury boutique resorts and technology parks in India.
Among the group’s key assets are equity holdings in two listed companies -- a 52.83% stake in Sical Logistics and another 16.04% stake in IT consulting firm Mindtree. The stakes are worth approximately Rs22.8bn ($356 million) in total, based on their respective share prices.
Despite being the largest coffee chain in India with a 46% market share, Coffee Day has faced competition from international coffee brands such as Starbucks and Costa Coffee.
Costa Coffee started its presence in India in 2005 with local partner Devyani International. Backed by UK food and beverage and property conglomerate Whitbread, Costa Coffee currently runs approximately 100 stores and plans to add another 200 stores within two years, according to local reports.
Meanwhile, Starbucks entered the local market through a joint venture with Tata Group in 2012 and operated 72 stores as of the end of June.
Coffee Day has reported losses in the last two consecutive financial years amid the fierce competition. For the financial year ended March 31, 2014, its losses more than tripled to Rs 770 million. The situation since appears to show no signs of improvement, with losses in the subsequent nine months amounting to Rs 752 million. The company has yet to publish results for the financial to end-March 2015.
In response to the threat, Coffee Day plans to begin selling through vending machines and to venture into the packaged coffee powder business. It plans to use part of the IPO proceeds to manufacture some 5,000 vending machines over the next three years.
Valuation and proceeds
According to the source close to the deal, investors are likely taking other listed quick service restaurant companies for reference in determining Coffee Day’s fair valuation. A good comparable is Jubilant FoodWorks, the sole operator of Domino’s Pizza outlets in India.
Since Coffee Day has not been profitable for years, the source suggests looking at the company's enterprise value/Ebitda ratio will be a better tool to calculate its valuation than a price-to-earnings approach.
Jubilant FoodWorks's share price has risen 35% so far this year and closed at Rs1,859 on Thursday, just 4% below its all-time high of Rs1,937 on July 7. The shares currently trade at 47.4 times EV/Ebitda, and 37.6 times on a forward basis.
It should come as no surprise that more than half of the IPO proceeds are tentatively planned to be used for debt repayment, as Coffee Day’s net gearing ratio stood at 511% as of the end of last year.
Approximately 55% of the IPO proceeds are earmarked for debt repayment, 8.5% for manufacturing vending machines, 7.6% for setting up new outlets, 5.2% for refurbishing existing outlets, and 3.6% for the construction of a new coffee roasting plant. The remainder will be used as general working capital.
Allocations to qualified institutional buyers, retail investors, and high-net-worth individuals will be on a typical 50/35/15 split for Indian IPOs.
Citi, Morgan Stanley and Kotak Mahindra Capital are the designated joint global coordinators on the planned Coffee Day IPO.
