Devyani International Ltd Q2 FY2023 Concall Summary

Key Takeaways

• Record store openings, margins squeezed: DIL added 88 net new stores in Q2, its highest ever, but consolidated gross margins fell 90 bps QoQ to 70.2% as price increases could not fully offset persistent input inflation.
• Volume growth slowed, replaced by pricing: Revenue grew 45% YoY, but management flagged that volume growth was "a little slow" and got replaced with pricing growth, a cautionary signal on underlying demand.
• Input costs have peaked and are now easing: Chicken, oil, and gas prices have started coming down from their peaks, and management is "absolutely confident" margins will recover without further price increases.
• Pizza Hut bets on Flavour Fun to close the ADS gap: The new value-range launch is a strategic long-term lever to drive footfall and bridge the average daily sales gap with the market leader, though it caused some near-term price dilution.
• What to watch next quarter: Whether easing input costs actually flow through to margin recovery, whether Pizza Hut volumes rebound after a soft Q2, and whether the aggressive store opening pace (on track for ~250+ stores) sustains without further brand contribution dilution.

Store Expansion & Operating Model

• Record pace of openings: DIL opened 88 net new stores in Q2, taking the total portfolio to 1,096 stores; core brands KFC, Pizza Hut, and Costa Coffee crossed the 1,000-store milestone.
• Full-year guidance held at ~250 stores: Management is staying with the same guidance, though the pipeline is building strongly and the number could be breached a little; Costa Coffee is on track for 40 to 50 additions.
• Non-Metro markets are the future: 52% of total stores now sit in non-Metro markets, where profitability is stronger than Metro markets because rentals, staff costs, and utility costs are all lower.
• Capex per store stable: Per an analyst's math, capex runs at roughly INR1.35 crore per store, a figure management confirmed as "not very far"; 9 to 10% inflation in capex over the last year is called "completely insignificant" in the overall context.
• Store closures are baked into the model: Management allows 18 to 24 months for a store to become successful; beyond two and a half years, closures are considered, and a reasonable number are already planned for given India's infrastructure challenges like flyovers and roadwork.
• KFC Smart Restaurants in early experiment: Two digital, self-ordering kiosk stores are open; early reads show a small APC uplift as consumers tend to add items on screen, but no fixed percentage of future stores is targeted for the format yet.

Dawar: "Today, if you look at our total store count, almost 52% of the total stores sits in the non-Metro markets. So, we are bullish on non-Metro markets. But again, as you know, the large consumption hubs still remain the Metro markets, but the future is, non-Metro is what we believe."

Margin Trajectory & Input Costs

• Gross margin compression was input-driven: Consolidated gross margins fell 90 bps QoQ to 70.2% because consistently high raw material and packing material prices outpaced the price corrections taken over the year.
• Brand contribution and EBITDA followed: Brand contribution margins fell to 19.6% from 20.5% QoQ, and pre-IndAS EBITDA margin fell to 15.1% from 16.1%, both reflecting the flow-down of the gross margin hit.
• Operating leverage contained the damage: Aggressive store openings (158 in H1) helped keep the brand contribution and EBITDA impacts mainly limited to the gross margin flow-down; operationally, the company says it is in good shape.
• Input costs have peaked: Chicken prices, oil prices, and gas prices have all started coming down; management sees the movement as a clear inflection, no longer "just going up and up."
• No further price increases planned: Management believes it could not have taken higher price increases than it did and took a temporary margin hit; with input inflation now easing, it is "absolutely confident" margins will come back.
• Costa Coffee margin dilution is temporary: Brand contribution margins at Costa fell to 19.6% because of bunched-up new store openings in the last two quarters against a small base; this should even out over the next few quarters.

Dawar: "The kind of pricing increases we've taken been, we don't think we could have taken a higher pricing increase beyond this. And therefore, to that extent, we've taken a temporary hit in our margins. But now, as the input inflation is coming down... we are absolutely confident that our margins will come back."

Demand Environment & Consumer Behaviour

• Volume growth slowed as inflation bit: Overall demand remains "a little impacted" in the face of continued inflation and elevated retail prices; volume growth was slow and got replaced with pricing growth, which management flagged as a caution.
• Consumer response is mixed: As the economy emerges from the pandemic, continued retail inflation has impacted consumer demand to some extent in both staples and discretionary categories.
• No Metro vs non-Metro demand divergence: Metro markets continue to behave strongly, and growth in non-Metro markets is also becoming very significant; no big difference seen between the two.
• Premium and mass offerings coexist: In the short term, new product launches like Flavour Fun can cause some experimentation-driven dilution at the premium end, but management views this as a strategic long-term call, not a tactical one.
• Festive season off to a decent start: Diwali time has gone well, but the real bump is expected in December around Christmas and New Year's; Q2 is seasonally soft, and COVID disruptions make year-ago comparisons a mixed read.

Dawar: "The kind of volume increase that we used to see in the previous years, that volume growth was a little slow and that got replaced with the pricing growth. So, that is the caution that we are talking about."

Brand-Level Performance

KFC

• Strong SSSG of 13%: Revenue grew 4% sequentially and 47% YoY, with SSSG driven more by pricing and less by volume.
• Gross margins fell on raw material pricing: Gross margins declined to 67.9% from 69% QoQ due to the full impact of raw material price increases.
• Peri-peri chicken launch met encouraging response: The new product launch was called out as a positive consumer reception.

Pizza Hut

• SSSG slowed to 3%: Revenue grew 36% YoY, but SSSG was impacted by a combination of base effect (last year's delivery-heavy mix when dine-in was restricted), pricing impact, and some price dilution from the Flavour Fun Pizza launch.
• Gross margins fell on input prices and mix: Gross margins dropped to 74.5% from 76.2% QoQ, and brand contribution margins fell to 17% from 17.5%.
• Flavour Fun is a strategic growth lever: Management is bullish on the new value-range launch as a way to drive footfall, grow ADS, and bridge the gap with the market leader over the long term, though it declined to share internal contribution targets.

Dawar: "We think this is one of the growth levers that we have if we have to grow the ADS and to bridge the ADS gap with the competition. So, we are bullish about this."

Costa Coffee

• Revenue reached INR22 crore: Gross margins at 79.6% were impacted primarily by higher input costs, and brand contribution margins at 19.6% were lower due to significant new store additions during the quarter.
• ADS diluted to INR31,000: The dilution reflects new store additions; the near-to-medium-term objective is to reach an ADS close to INR40,000, though not in the next quarter.

Strategic Bets & Long-Term Levers

• Pizza Hut ADS ambition is possible but macro-dependent: Management said reaching INR65,000 in three years is "not beyond possibility," but cited global headwinds in Europe and China as reasons for caution and declined to commit to a number or specific roadmap.
• Costa Coffee margin normalization expected: The brand contribution impact from bunched-up openings should even out over the next few quarters as the new stores mature against a growing base.
• Vaango remains a long-term optionality: The South Indian brand does well where captive footfall exists but is not yet a destination brand; expansion continues at a smaller pace while KFC, Pizza Hut, and Costa remain the big priorities.
• ONDC watched but no bet placed yet: Management is closely watching the ONDC space and will be keen when it starts to gain traction, but has not taken a bet on it so far.
• Market growth tailwind: A recent study pegs Indian QSR industry growth above 15% for the coming years; DIL is confident of growing higher than the overall market.

Jaipuria: "Some of the basic input costs have already started coming down. Chicken prices are down. Oil prices are down, and even gas prices have been reduced. So, I think, going forward, it seems that the inflationary impact may not be there. And we are not looking at raising prices for the time being."

Guidance & Commitments

Key Metrics