Devyani International Ltd Q4 FY2023 Concall Summary

Key Takeaways

• Store engine running hot, margins under pressure: 305 net new stores pushed revenue up 44% YoY to ~₹3,000 crore, but gross margins slipped to 70% and brand contribution margins compressed, especially at Pizza Hut where they nearly halved YoY.
• Pizza Hut took a deliberate margin hit: Management chose not to pass through rising milk and cheese prices in the back half of the year, while simultaneously launching a 'Value Layer' that diluted near-term ADS and margins, a trade-off it frames as a long-term portfolio play.
• Input cost relief is arriving, but slowly: Chicken and oil prices are moderating, with KFC gross margins already improving 100 bps QoQ; full benefit will take another couple of months to flow through inventory. Milk and cheese remain a concern, with stabilization hoped for in ~6 months.
• Demand signals are tentatively improving: Management believes the cycle is near the bottom, citing improving consumer sentiment over the last 45 days and input price moderation that should lift disposable income.
• What to watch next quarter: Whether the April price increase at KFC and the new premium pizza menu at Pizza Hut restore brand contribution margins without sacrificing the SSSG recovery, and whether the promised chicken price benefits actually land in reported gross margins.

Margin Walk: The Pizza Hut Story

• Brand contribution nearly halved YoY: Pizza Hut India's brand contribution margin fell to 9.2% in Q4 from a higher base, driven by four overlapping forces.
• Statutory bonus hit all brands: A one-time full-year provision under the Payment of Bonus Act elevated employee costs in Q4; this alone accounted for roughly 100 bps of KFC's brand EBITDA decline and weighed on Pizza Hut and Costa Coffee as well.
• Cheese and milk inflation was absorbed, not passed on: Unlike KFC, Pizza Hut took no price increase in the back half of the year despite rising dairy input costs, a deliberate choice that compressed gross margins to 73.3% from 75.6% a year ago.
• The 'Value Layer' launch diluted ADS: The introduction of the 'Flavour Fun' range shifted product mix toward lower-ticket items, contributing to a negative SSSG of -3.2% and an ADS decline to ₹39,000. Management sees this as a short-term dilution for long-term consumer acquisition.
• Operating deleverage from rapid store adds: New Pizza Hut stores take time to mature, and with 93 net new stores added in FY23, the fixed cost base grew faster than revenue per store, amplifying the margin compression.

Dawar: "Pizza Hut, despite the fact that the milk and cheese prices continue to go up throughout the year, we did not take a price increase during the back quarters and therefore we have taken a hit on the margins."

KFC: Pricing Power with a Value Cushion

• Gross margin recovery has begun: KFC India's gross margin expanded 100 bps QoQ to 68.6% in Q4, driven by lower chicken costs and some oil price benefit, though the full impact of falling chicken prices is still working through higher-cost inventory.
• A 12-month pricing gap ended in April: KFC took a 3-3.5% price increase in April 2023, its first since April 2022, signaling confidence that the brand can pass through costs without breaking demand.
• 'Value Layer' balances the portfolio: The launch of KFC Lunch and Rolls at lower price points is designed to attract new consumers and provide an entry point, while premium products like Chizza and Peri-Peri chicken protect the top end. Management is explicit that KFC will not be used to cross-subsidize margins elsewhere.
• SSSG held positive at 1.9%: Despite weak consumer demand, fewer operating days, and a festival timing shift, KFC delivered positive same-store sales growth in Q4, though ADS declined to ₹106,000.
• Peak gross margin target intact: Management expects KFC gross margins to return to the 69-69.5% range over the next few quarters as chicken price benefits fully flow through.

Dawar: "We do not want to balance the company margins through KFC. We are absolutely cognizant and careful on every and each brand of ours and we want to make sure that we nurture all these brand..."

Input Costs: What's Turning, What's Stubborn

• Chicken prices are falling: Management is "certain" chicken prices will come down; new purchase orders are already locked at lower prices, but higher inventory and forward cover mean the P&L benefit will take another couple of months to materialize.
• Oil and wheat are easing: Edible oil prices have tapered off and flour prices are slightly lower, providing a tailwind to food costs across brands.
• Paper prices are coming off: Packaging costs, a meaningful input for a QSR chain, are declining.
• Dairy remains the pain point: Milk and cheese prices continue to rise and are the primary concern; management hopes for stabilization in approximately six months, but offers no certainty. If cheese prices keep climbing, Pizza Hut gross margins will face further dilution.

Demand & the Consumer

• The cycle is near the bottom, per management: The company believes the sector, which follows consumer staples, has started recovering, and that input price moderation will feed through to improved disposable income and consumption.
• Last 45 days have shown improvement: Management noted a visible uptick in demand in the most recent period, though it stopped short of calling a definitive turn.
• SSSG medium-term guidance is unchanged: KFC at 5-6% and Pizza Hut at 7-8%, with quarter-to-quarter volatility expected and no quarterly outlook provided.
• Competition is welcomed, not feared: Management views competitive intensity as a net positive for the category, arguing it creates more noise in the market and drives overall consumption.

Dawar: "We think that the inflation seems to be bottoming out that is more from the input prices that we are seeing and therefore it is not just in our category that is across various categories and various industries with that the disposable income for the consumer grows and therefore that should come back into the consumption category."

Store Expansion & Brand Portfolio

• Scale is the strategy: Store count more than doubled over three years from 610 to 1,243, with 305 net new stores in FY23 alone. KFC added 126 stores and Pizza Hut added 93, both in line with annual guidance.
• The ADS-SSSG gap is a math problem management won't solve on the call: When asked what SSSG is needed for flat ADS to avoid operating deleverage, management introduced a third variable (pace of store additions) and declined to provide the actual expansion numbers, offering to work it out offline.
• Costa Coffee is a slow-build, not a mass play: Revenue crossed ₹100 crore with ADS improving to ₹35,000, but expansion remains focused on metros and Tier-1 cities at 60-70 stores per year. Management declined to put a timeline on reaching the ₹1,000 crore benchmark.
• International business is self-sustaining: Nigeria and Nepal operations are positive at both brand contribution and EBITDA levels, with no fresh investment from India; profits are reinvested locally. A Dubai subsidiary has been created for potential future overseas expansion, but nothing is concrete.
• ONDC is an experiment, not a bet: Pizza Hut is live on ONDC, KFC is under evaluation, but management says the platform has yet to gain traction and the company will participate only if it does.

Guidance & Commitments

Key Metrics