BreadTalk Group Limited

Transcription

1 BreadTalk Group Limited The dough is rising Initiation Overweight BRET.SI, BREAD SP Price: S$.56 Price Target: S$.7 Initiate with OW, Jun-11 PT of S$.7 anchoring its brand at home and abroad: BreadTalk has transformed from a bakery chain into a regional F&B player with a strong presence in Singapore and China. The company has more than doubled its bakeries, restaurants and food courts between FY5 and FY9, delivering revenue/net profit CAGR of 27%/81%. It stays competitive through continuous product innovation which underlines its strong brand equity at home and abroad. Overseas revenue contribution grew from nil in FY2 to 52% in FY9. Leveraging on China s growth: BreadTalk s China revenue almost doubled to S$86MM between FY5 and FY9 as its number of bakeries rose from 2 to 134 and food courts from 13 to 22. BreadTalk s wide range of F&B offerings makes it well positioned to take advantage of the higher disposable income of China s urban households and the rising trend of dining out among the mass affluent consumers. Strong potential in restaurants: We see strong potential in BreadTalk s restaurant business which generates the highest operating margin (FY9: 7.9% vs. group average: 6.6%) and average revenue per outlet among its three segments. Besides its highly successful 8 Din Tai Fung restaurants in Singapore, it also added Thailand as the next franchise territory. BreadTalk has also launched its own restaurant label, RamenPlay, which will initially focus on Singapore and China as key markets. Earnings recovery to drive the share price: 1H1 operating profit was 3% lower Y/Y due to start-up losses from newly-launched Carl s Junior and RamenPlay, and one-off asset write-off from its China food courts. At 12.2x FY11E P/E, we believe concerns on further earnings disappointment might be more than priced in. We expect a recovery as new outlets ramp up and established ones continue to record higher same-store sales. Valuation, PT and risks: Our PT is based on 15x 211E P/E, implying c.3% discount to regional peers. We believe the stock could further re-rate if it delivers on execution, given its rapidly expanding regional presence. Key downside risks: (1) longer-than-expected breakeven time for new outlets; and (2) an unexpected spike in raw materials cost hurting margins. BreadTalk Group Limited (Reuters: BRET.SI, Bloomberg: BREAD SP) S$ in, year-end Dec FY8A FY9A FY1E FY11E FY12E Revenue (S$ mn) Net Profit (S$ mn) EPS EPS (Recurring) DPS Revenue growth (%) 35.5% 16.1% 28.6% 32.5% 23.9% EPS growth (%) 2.3% 42.9% -29.7% 37.5% 29.% EPS (Recurring) Growth 2.5% 42.9% (29.8%) 37.5% 29.% ROE 15.% 18.1% 13.4% 16.4% 18.4% P/E (x) P/BV (x) Dividend Yield 1.8% 1.8% 1.3% 1.7% 2.2% Source: Company data, Bloomberg, J.P. Morgan estimates. Singapore Food & Food Manufacture Ying-Jian Chan AC J.P. Morgan Securities Singapore Private Limited Price Performance.7 S$.55.4 Sep-9 Dec-9 Mar-1 Jun-1 Sep-1 BRET.SI share price (S$ FTSTI (rebased) YTD 1m 3m 12m Abs -.6%.9% 5.7% 33.2% Rel -6.4% -3.4% -4.% 17.% 52-week Range (S$) Mkt Cap (S$ mn) Mkt Cap ($ mn) Price (S$).56 Date Of Price 13 Sep 1 Free float (%) 24.2% 3-mth trading volume (mn).17 3-mth trading value (S$ mn).1 3-mth trading value ($ mn).7 FTSTI 3,67 Exchange Rate 1.34 Fiscal Year End Dec See page 3 for analyst certification and important disclosures, including non-us analyst disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

2 Company Description P&L sensitivity metrics EBITDA EPS impact (%) impact (%) Bakeries (direct-owned) new outlets assumption FY11E: 117 outlets Impact of each 1 outlet increase.1.2 BreadTalk Group Limited was founded in 2 and listed on SGX in June 23. It is primarily engaged in the business of operating bakeries, food atriums and restaurants. Its flagship outlets include BreadTalk bakeries, ToastBox, Food Republic chain of food atriums, and franchise operations of Michellin 1-star Ding Tai Fung restaurants. Restaurants new outlets assumption FY11E: 18 outlets Impact of each 1 outlet increase.3.7 Food courts new outlets assumption FY11E: 9 outlets Impact of each 1 outlet increase.3.6 Source: J.P. Morgan estimates. Revenue breakdown Price target and valuation analysis Our price target of S$.7 for BreadTalk Group Limited is based on 15x FY11E P/E c.3% discount to regional peers. FY11E EPS (S cents) 4.6 Regional peer average 211E P/E 22.4 Applied discount to regional peers 3% Applied P/E to value BreadTalk 15.7 Fair value of BreadTallk (S cents) 71.6 Price target (S cents) 7. Source: Company reports Net income: J.P. Morgan vs consensus RMB MM J. P. Morgan Consensus FY1E 9 9 FY11E FY12E Source: J.P. Morgan estimates, Bloomberg. Our Jun-211 PT implies 15x/12x FY1E/FY11E P/E. Key downside risks include: (1) longer time than expected to breakeven on new outlets; (2) unexpected spike in raw materials cost hurting margins; while we expect upside risks from (1) faster than expected breakeven at new outlets; and (2) decline in operating expenses e.g. raw materials, rentals etc. Peer valuation comparison Last price Market cap P/E (x) 2-yr EPS CAGR P/B (x) ROE (%) Div yield (%) Company Ticker (LC) (US$MM) 211E 212E E 211E 211E 211E BreadTalk Group BREAD SP % Cerebos Pacific * CER SP , NA NA Super Group* SUPER SP % Petra Foods * PETRA SP % Food Empire * FEH SP NA NA F&N * FNN SP , NA NA Singapore F&B Stock average % Café de Coral 341 HK , % Want Want 151 HK , % Uni-President 22 HK , % Tingyi 322 HK , % Mengniu 2319 HK , % Ajisen China 538 HK , % Little Sheep* 968 HK % China F&B Stock average % Source: Company data, Bloomberg, J.P. Morgan estimates. Bloomberg estimates for NR companies. Prices are as of. 2

3 Table of Contents Peer valuation comparison...2 Investment thesis...4 Rapid expansion to drive growth...4 Tapping China s growth and rising affluence...6 Creativity sells: Opportunities in the premium segment...7 Risks to our thesis...8 Execution risks: ramping up the learning curve...8 Rising costs may hurt margin...9 Increase in competition from other F&B players...1 Valuation and share price analysis...12 Jun-11 price target of S$ Potentially trade closer to regional peers...12 Share price performance...15 Key assumptions...16 Industry overview...17 Highly competitive industry...17 Segment players and industry trends...17 Company background...21 Not just making bread, but creating it...21 Business segments...21 Franchise model to complement growth strategy...23 Financial analysis...25 Profit and loss...25 Balance sheet...26 Cash flow statement...27 Key operating and financial ratios

4 Investment thesis We initiate coverage on BreadTalk Group Limited with an Overweight rating and Jun-11 price target of S$.7. In just under 1 years, BreadTalk has grown rapidly from a bakery business into a full-fledged F&B player. Its three key growth pillars now include bakeries, food courts and restaurants. BreadTalk has presence in 12 countries in Asia and Middle East, covering close to 4 bakeries, restaurants and food courts. We believe BreadTalk is well positioned to tap into Asia s rising consumer spending due to higher quality food products and dining experience. Table 1: Revenue growth by segments CAGR % Group 26.8 Bakery 23.2 Restaurant 23.4 Food Court 29.8 Source: Company data, J.P. Morgan. Figure 1: Number of outlets FY3 2Q 1 Bakeries Food courts Restaurants Source: Company reports. 378 Rapid expansion to drive growth BreadTalk s revenue has increased by 35% CAGR between 23 and 29, fuelled by the company s rapid expansion of outlets across all three business segments. From just 27 outlets in 23, BreadTalk has grown significantly and now has a chain of 378 bakeries, food courts and restaurants, owned and franchised, spread across Asia and the Middle East. Table 2: BreadTalk bakeries, food courts and restaurants expansion profile Number of outlets FY3 FY4 FY5 FY6 FY7 FY8 FY9 2Q 1 Bakeries Own Franchised Food courts Restaurants Total Source: Company data, J.P. Morgan. Strong potential at food courts and restaurants On top of the bakery business that the company originally started out with, BreadTalk has achieved considerable success in its entry into the food court and restaurant businesses which deliver relatively higher margin that also generate higher revenue per outlet. BreadTalk entered the food court business in 24 with the acquisition of the Megabite chain of 13 food courts in China for S$11 million in October 24 via the issuance of 37.9 million shares at S$.29 each. The company has since expanded its operations to 31 food courts comprising five in Singapore, 2 in China, five in Hong Kong and one in Malaysia. Figure 2: Food court revenue per outlet and operating margin % / S$ in millions Figure 3: Restaurant revenue per outlet and operating margin % / S$ in millions 1% 3. 25% 6. 8% 6% 4% 2% % 15% 1% 5% % FY5 FY6 FY7 FY8 FY9. % FY3 FY4 FY5 FY6 FY7 FY8 FY9. Rev enue per food court (R) Op margin (L) Rev enue per food court (R) Op margin (L) Source: Company data, J.P. Morgan. Source: Company data, J.P. Morgan estimates. 4

5 BreadTalk entered its restaurant business in 23 by acquiring franchisee rights to bring the Din Tai Fung brand into Singapore. It started with one restaurant at the new Paragon extension at Orchard Road and has now expanded to a chain of eight restaurants. In 29 the company launched its first Carl s Junior franchise in Shanghai and also ventured into creating its own restaurant label RamenPlay via a joint venture with an experienced Japanese F&B player, serving authentic Japanese ramen. Management expects to roll out RamenPlay in Shanghai, China, in the nearterm, which could be via both the direct ownership and franchise model. Executing on target BreadTalk has a good track record of delivering on its promises. We compile a list of targets that BreadTalk has for itself in the past and we note that it has mostly been able to execute right on target. Table 3: BreadTalk historical targets and outcomes Year Target Outcome 24 Bakeries China: Opens 6 more BreadTalk outlets in Shanghai in 24 Exceeded China: Opens 1 BreadTalk outlet in Beijing by 3Q4 Exceeded Indonesia: Opens 1 more franchise BreadTalk outlets in 24 Shortfall of 3 Kuwait: Opens 1 BreadTalk franchise outlet in 1H4 Exceeded The Philippines: Opens 1 BreadTalk franchise outlet in Manila by April 24 Exceeded Malaysia: Opens 1 BreadTalk franchise outlets in 3 years Acquired as subsidiary Seal BreadTalk franchise agreements for Hong Kong, Taiwan, Thailand and Australia Partially met, some directowned 25 Bakeries China: Opens15 BreadTalk outlets in Shanghai, Beijing and Shenzhen Partially met Food courts China: Opens 2-3 more Food Republic outlets Met in 26 Singapore: Opens 1st Food Republic outlet in Wisma Atria Met Hong Kong: Opens 1st Food Republic outlet in City Plaza, Tai Koo Shing Met Restaurants Singapore: Opens 3rd Din Tai Fung outlet in Tampines Mall Met Singapore: Opens 4th Din Tai Fung outlet in Wisma Atria Met 26 Food courts Singapore: Opens 2nd Food Republic outlet in VivoCity Met China: Opens 4 more food courts - 1 in Shanghai, 1 in Beijing, 2 in Chongqing Met Restaurants Singapore: Opens 5th Din Tai Fung outlet in Raffles City Met 27 Food courts China: Opens 2 or 3 more Food Republic outlets Met Hong Kong: Opens 2nd Food Republic outlet Met Malaysia: Opens 1st Food Republic outlet in Kuala Lumpur Met Source: Company reports, J.P. Morgan. Based on its historical track record, we are confident that BreadTalk will be able to continue deliver on its targets going forward. Riding the strengths of its three core business segments and with now a more diversified portfolio of brands within each segments, BreadTalk has set for itself the below targets. If executed well, these expansion plans could potentially more than double the size of BreadTalk in the medium term. 5

6 Figure 4: Revenue by geography (FY9) Others Hong Kong 6% 12% China 35% Source: Company reports. Singapore 47% Table 4: Management s target for number of outlets across business segments Current (2Q1) By end- 21 By end- 211 Bakeries Direct owned Franchised Restaurants Din Tai Fung Carl's Junior RamenPlay Food courts Singapore China Hong Kong Malaysia Source: Company data, J.P. Morgan. Long-term target 1, bakeries in 3 to 4 years. 2 restaurants in the next few years. 8 food courts in the next 3 to 4 years. Remarks Tapping China s growth and rising affluence To lower the proportion of directowned outlets from 4% to 3% in the long run. Franchise expected to account for a larger proportion as RamenPlay is BreadTalk s own restaurant label and can grow quickly via franchise model. China s rapid growth in the past two decades has resulted in unparalleled development and affluence, especially in urban areas. The per capita disposable income in urban households has increased ten-fold from 199 to 28 to Rmb15,781, translating to 14% CAGR. With rising income, families could afford to trade up from basic necessities to better quality consumer products, especially food. Evidently, per capita expenditure on food in China s urban areas has also increased by 11% CAGR over the same period. Figure 5: Annual per capita disposable income and expenditure of urban households in China, Rmb 2, 15, 1, 5, 1,51 1,279 6,28 4,998 13,786 9,997 15, Annual Per Capita Disposable Income of Urban Households Annual Per Capita Consumption Expenditure of Urban Households 11,243 Figure 6: Annual per capita expenditure of urban households on food in China, , 4, 3, 2, 1, 694 1,971 3,628 4, Source: China Statistics Yearbook 29. Source: China Statistics Yearbook 29. China s rising affluence has generated exciting opportunities for the food and beverages (F&B) industry. With more people working in urban areas, dining out has become an increasingly common trend. As China continues its urbanization process, people are also more open to try new food products. We believe the continued expansion of the China market will be beneficial for BreadTalk. China already accounts for 35% of BreadTalk s revenue and this looks set to increase as the company expands further with its bakeries, Food Republic, Carl s Jr franchise outlets and RamenPlay restaurants. 6

7 Figure 8: Number of China food courts FY5 Table 5: List of new establishments, New establishments The Icing Room Food Opera Tea Loft Bread Society RamenPlay Carl's Jr 16 FY6 18 FY7 2 FY8 22 FY9 Source: Company data, J.P. Morgan. Description 2 2Q1 Allows customers to design and decorate their own cakes Upscale food court with elaborate, grandeur décor English tea room with local delicacies Premium allnatural bread featuring top Japanese pastry chefs BreadTalk s first label in restaurant segment, serving Japanese ramen in modern setting Premium American fast food restaurant serving signature charbroiled burger in generous servings Source: Company reports. Table 6: Original and premium version of F&B outlets Original Outlet Premium Version Food Republic Food Opera ToastBox Tea Loft BreadTalk Bread Society Source: Company reports. Figure 7: Number of bakeries in China FY3 FY4 FY5 FY6 FY7 FY8 FY9 2Q1 Source: Company data, J.P. Morgan. Direct ow ned Franchise Creativity sells: Opportunities in the premium segment Innovative bread concept BreadTalk distinguishes itself from traditional bakeries with its unique and innovative concept focusing on hygiene, quality and brand image. It was the first in Singapore to adopt an open kitchen concept for bakeries, installing transparent glass panels to allow customers viewing of the whole bread-making process. Sophisticated bread-making equipment was installed in each outlet, with bakers wearing standardized uniforms and outlet cleanliness is maintained at all times. This assures customers of BreadTalk s product quality. This concept has also proven to be popular, especially in China where food safety is a key concern among consumers. Ongoing R&D BreadTalk has a dedicated R&D team devoted to developing new bread designs and flavors to not only meet the ever-changing consumer tastes and preferences but also set the trend in the pastry business. Around 1 prototypes are developed each quarter, which are then filtered and tested on the market to assess consumer demand. Around 6 different varieties of bread are displayed in the bakery outlets every day, rotated on a regular basis. With creative bread and innovative retail concept, BreadTalk is able to charge higher prices compared to its competitors. According to CommonWealth magazine, the size of BreadTalk s flagship bread is only two-thirds of its competitors and yet commands a higher price of Rmb6 per bread on an average, which is equivalent to the price of a lunch set in Shanghai. Going premium and experimenting with restaurant label BreadTalk is also experimenting with premium bakery establishments, launching Bread Society and the Tea Loft at ION Orchard, the latest premier shopping mall along the Orchard Road shopping belt in anticipation of rising tourist numbers following the completion of the integrated resorts in 21. Bread Society is the premium version of the mass market BreadTalk bakeries, with experienced Japanese master chefs Takaaki Nishikawa and Atsushi Murata conceptualizing over 1 unique European recipe-inspired breads exclusively for Bread Society bakeries. The Tea Loft is the premium establishment with a creative twist to fuse the tradition of English afternoon tea with local delicacies. Through experimenting with premium brands, BreadTalk is evaluating market opportunities in the premium segment to determine the demand from more affluent consumers. 7

8 Risks to our thesis Execution risks: ramping up the learning curve Volatility in margins Despite consistent revenue growth, BreadTalk s profitability has been rather volatile historically, with the bakery business even plunging into operating losses in FY4 and FY5 due to higher operating expenses which were contributed by start-up cost in its China subsidiaries which had yet to achieve economies of scale. Personnel costs were also higher as the company was still in rapid expansion mode. Profitability at other segments have also been quite volatile due to start-up issues as many outlets have not yet fully ramped up. Figure 9: Operating profit by segment S$ in millions Figure 1: Operating profit margin by segment % (2.) FY3 FY4 FY5 FY6 FY7 FY8 FY9 Bakery Restaurant Food Court 25% 2% 15% 1% 5% % -5% FY3 FY4 FY5 FY6 FY7 FY8 FY9 Bakery Restaurant Food Court Source: Company data, J.P. Morgan. Source: Company data, J.P. Morgan. mitigated by more stringent selection of location and franchising strategy Drawing lessons from the past, BreadTalk has since ramped up the learning curve. It now uses more stringent criteria when selecting the location of new outlets. Management ensures that a shopping mall already has at least 8% of its tenants opened for business before it commits to its tenancy agreement, particularly in China. This would help ensure a good baseload of human traffic. BreadTalk also collaborates closely with retail mall operators to secure prime retail spaces at strategic locations. In November 29, BreadTalk entered into an agreement with Perennial (Singapore) Retail Management to invest in the junior bonds and preference shares of PRE 1 Investments which owns Katong Mall, for a total investment amount of S$1.75 million. Apart from it being a financial investment, the move will enable BreadTalk to secure good retail space in the redeveloped Katong Mall for its bakeries, food courts and restaurants outlets, in our view. Furthermore, BreadTalk only operates its own bakeries in areas where it has already established itself and is familiar with market conditions, such as Singapore, Shanghai and Beijing. It franchises its operations in other locations to its business partners which are more familiar with these untested markets. BreadTalk may, however, buy out its franchisees which have proven to be successful. For instance, in 3Q7, the bakery outlets in Malaysia and Hong Kong, which were previously operated under franchise agreements, became 9% and 85% subsidiary of BreadTalk, respectively. 8

9 Rising costs may hurt margin Raw materials BreadTalk buys raw materials such as vegetable oil, flour and eggs from external suppliers, exposing it to price fluctuations in raw materials which could potentially impact its margins negatively if costs are not well managed. Figure 11: Gross margin trend with Q/Q changes in raw material price changes 8% 6% 4% 2% % -2% -4% -6% 1Q8 2Q8 3Q8 4Q8 1Q9 2Q9 3Q9 4Q9 1Q1 2Q1 Palm Oil Sugar Wheat GP margin Source: Company data, Bloomberg, J.P. Morgan estimates. We note, however, that BreadTalk s gross margin has been stable between 53% and 56% despite high fluctuations in raw material prices. This gives us confidence that the company has been effective managing its raw material costs which accounts for about 25-3% of its costs of sales. Furthermore, to mitigate raw material price risks, BreadTalk has put in place an experienced team responsible for monitoring raw material prices via centralized procurement processes, purchasing directly from manufacturers, rather than from traders to minimize costs. An enterprise resource planning system was implemented to facilitate inventory tracking and control. Based on our estimates, every 5% increase in raw materials price impacts net income negatively by 13%, assuming it is unable to defray the impact of cost increases. Figure 12: Sensitivity of net income on raw material costs % 6% 4% 2% % -2% -4% -6% -15% -1% -5% +5% +1% +15% FY1E FY11E FY12E Source: J.P. Morgan estimates. However, we believe that there are various strategies that BreadTalk could adopt to cushion the impact of higher raw material prices, as based on our channel checks, BreadTalk has consistently been introducing new products, some of which may command higher margins, and engaging in product promotions to boost sales. 9

10 Staff and rental costs Staff and rental costs are two key operating cost components of BreadTalk. Notably, BreadTalk s rental costs account for a relatively higher proportion of its operating expenses, at 23%, compared to its F&B peers which average about 13%. This is because BreadTalk tends to locate its outlets at prime spaces of shopping malls which would command higher rental. Figure 13: Cost structure comparison with peers % 1% 8% 6% 4% 2% % 11% 2% 13% 15% 19% 12% 9% 7% 4% 5% 4% 4% 28% 36% 39% 48% 32% 42% 23% 13% 13% 19% 11% 12% 3% 28% 22% 23% 33% 3% BreadTalk Café de Coral Ajisen China Little Sheep Tung Lok Thai Village Staff Rental Raw materials Depreciation Others Source: J.P. Morgan, Company data. However, we note that BreadTalk s staff and rental costs have been increasing in tandem with revenue growth with staff cost consistently accounting for 27-3% of total operating expenses and rental accounting for 22-23% over the last 5 years. And given that these 2 cost components are relatively fixed and account for about 5-53% operating expenses, operating leverage of BreadTalk s business is rather high which would enable BreadTalk to benefit significantly as revenue per outlet increases. Increase in competition from other F&B players Due to the highly fragmented nature of the F&B industry, BreadTalk faces intense competition in all its business divisions: bakeries, food courts and restaurants. Domestic market Replication of business model Since setting the trend of an innovative bread retail environment, many competitors in the industry, especially independent and smaller bakery establishments in heartland areas, have also adopted some of the strategies that BreadTalk pioneered, such as the installation of transparent glass panels in the baking section, inventing creative names for the bread and fanciful shop decorations to attract customers. More segments the merrier? Many F&B businesses in Singapore have diversified operations, competing head-on with each of BreadTalk s business segment. For instance, Kopitiam has made its first foray into the fast food business through the franchise of Wendy s outlets in Singapore and Koufu has been expanding aggressively into heartland areas with five different brands of food courts under its umbrella. 1

11 Table 7: Singapore F&B companies with respective lines of business Company Bakery Food Court Restaurant Others BreadTalk BreadTalk Toast Box TeaLoft Bread Society The Icing Room Food Republic Food Opera Din Tai Fung Carl's Junior RamenPlay Auric Pacific Work Delifrance Food Junction Crystal Jade Crystal Jade My Bread Kopitiam Kopitiam Banquet Koufu DeliJoy Koufu VariNice Hungry Jack Fork & Spoon Gourmet Paradise Source: J.P. Morgan. Black Ramen Tetsu Malone's Crystal Jade Group of Restaurants Wendy's SoEz Cooking Studio Punggol Plaza Fernvale Point Crystal Jade, a popular chain of Chinese restaurants launched Crystal Jade My Bread chain of bakeries, with focus to bring Hong Kong and Macau specialty pastry into Singapore. Food Junction and Koufu have also launched their coffee and toast brands within their food courts, intensifying competition. China market Intense competition from foreign and domestic bakery players With vast untapped market potential for bread, many domestic and international bakery chains have entered and expanded in China, intensifying competition further. Christine, the largest domestic bakery chain in China, plans to expand to 1, outlets in the next five years, while 85 C, a Taiwanese bakery chain, competes headon with BreadTalk bakeries with creative breads, cakes and coffee at competitive prices. While competition intensifies in China, we believe that the bakery market has not reached its saturation point yet. To sustain growth in the long run, BreadTalk might need to continue improving its brand appeal through more innovative products and diversify into other F&B areas. Recent franchise with Carl s Jr and the setting up of its first in-house restaurant label RamenPlay will be the new drivers of growth going forward, in our view. 11

12 Valuation and share price analysis Jun-11 price target of S$.7 Our price target of S$.7 for BreadTalk is based on 15x 211E P/E, which is a c.3% discount to its regional peers. We believe an earnings-based valuation metric would be appropriate for an operating business like BreadTalk. BreadTalk s expansion plans gradually began to pay off via continuous improvement in earnings from FY5 onwards, and we expect the stock to re-rate further going forward as the company moves on to its next growth phase from here. The stock has in the past five years traded largely within +/-1 standard deviation of its mean forward P/E of 13.2x. Figure 14: 12-month forward P/E (x) Jan-5 Apr-5 Jul-5 Oct-5 Jan-6 Apr-6 Jul-6 Oct-6 Jan-7 Apr-7 Jul-7 Oct-7 Jan-8 Apr-8 Jul-8 Oct-8 Jan-9 Apr-9 Jul-9 Oct-9 Jan-1 Apr-1 Jul-1 12M Fw d P/E Mean -2 SD -1 SD +1 SD +2 SD Source: Company data, J.P. Morgan. Potentially trade closer to regional peers We do not find any meaningful peers within the Singapore-listed F&B segment which have similar breadth in their businesses, products and geographical outreach as BreadTalk. Amongst the regional peers, we see Café de Coral (341 HK, UW) as the closest comparable to BreadTalk. Café de Coral is the largest publicly-listed Hong Kong-based fast food restaurant group in the world with over 33 outlets in the Asia Pacific region, and over 2 quick service restaurants in North America. Figure 15: Café de Coral EPS growth trend (1-year CAGR: 9%) % / HK cents Figure 16: No of operating units (Total: 547) As of June 29, 21 3% 2% % % -1% -2% FY99 FY FY1 FY2 FY3 FY4 FY5 FY6 FY7 FY8 FY9 FY N. America Hong Kong China & overseas Institutional catering Specialty restaurants EPS Grow th Existing shops New shops since Apr 29 Source: Company data. Source: Company data. 12

13 We note that Café de Coral business model is focused on fast food and has mostly been able to pass on any cost inflation to its customers via increases in menu prices. This makes Café de Coral s business a defensive one. While BreadTalk s restaurant business may be quite cyclical, we note that its bakery and food court businesses (75-8% of group revenue and operating profit) are actually quite resilient to economic cycles as evident from its track record of revenue per outlet. As seen from the figures below, food court revenue per outlet has been on a steady uptrend. Bakery revenue per outlet has remained largely steady, despite the large number of new outlets opened in the last few years, with some newer outlets still in the ramp up phase and could still improve on revenue generation. Figure 17: No of outlets Outlets FY5 FY6 FY7 FY8 FY9 Source: J.P. Morgan, Company data. Bakery (direct ow ned) Restaurant Food Court Figure 18: Revenue per outlet trend S$ in millions FY5 FY6 FY7 FY8 FY9 Bakery (direct owned) Restaurant Food Court Source: J.P. Morgan, Company data. Café de Coral currently trades at 2x 211E P/E and has been generating an EPS CAGR of 9% over the past 1 years. On the other hand, BreadTalk has been delivering an EPS CAGR of 37% between 23 and 29 and is expected to deliver c.3% EPS CAGR over the next three years. Given the stronger earnings growth profile and its expansion in high growth markets like China, we believe BreadTalk has strong potential to become an established regional F&B player. Hence, BreadTalk has the potential to trade at a higher valuation and closer to its regional peers, in our view. Historically, BreadTalk has traded at an average forward P/E discount of c.2% versus Café de Coral. With Café de Coral currently trading at 2x forward P/E, the 15x forward P/E used in our valuation for BreadTalk is reasonable, in our view, with potential for further re-rating as BreadTalk delivers on its execution and earnings. 13

14 Figure 19: 12-month forward P/E of BreadTalk and Café de Coral (x) Jan-5 Apr-5 Jul-5 Oct-5 Jan-6 Apr-6 Jul-6 Oct-6 Jan-7 Apr-7 Jul-7 Oct-7 Jan-8 Apr-8 Jul-8 Oct-8 Jan-9 Apr-9 Jul-9 Oct-9 Jan-1 Apr-1 Jul-1 BreadTalk Café de Coral Source: Company data, Bloomberg, J.P. Morgan estimates. Figure 2: P/E ratio (BreadTalk / Cafe de Coral) (x) Jan-5 Apr-5 Jul-5 Oct-5 Jan-6 Apr-6 Jul-6 Oct-6 Jan-7 Apr-7 Jul-7 Oct-7 Jan-8 Apr-8 Jul-8 Oct-8 Jan-9 Apr-9 Jul-9 Oct-9 Jan-1 Apr-1 Jul-1 P/E ratio (BREAD SP / 341 HK) Mean -2 SD -1 SD +1 SD +2 SD Source: Company data, Bloomberg, J.P. Morgan. Table 8: BreadTalk peer valuation comparison Last Price Market cap P/E (x) 2-yr EPS CAGR P/B (x) ROE (%) Div yield (%) Company Ticker (LC) (US$MM) 211E 212E E 211E 211E 211E BreadTalk Group BREAD SP % Cerebos Pacific * CER SP , NA NA Super Group* SUPER SP % Petra Foods * PETRA SP % Food Empire * FEH SP NA NA F&N * FNN SP , NA NA Singapore F&B Stock average % Café de Coral 341 HK , % Want Want 151 HK , % Uni-President 22 HK , % Tingyi 322 HK , % Mengniu 2319 HK , % Ajisen China 538 HK , % Little Sheep* 968 HK % China F&B Stock average % Source: Company data, Bloomberg, J.P. Morgan estimates. Bloomberg estimates for NR companies. Prices are as of. 14

15 Figure 21: BreadTalk Group price event chart.8 Share price performance BreadTalk Group Limited was listed on the Singapore Exchange on June 13, 23, with an initial offer price of S$.24 per share. The chart below highlights key events for the company since its listing Mar 7: Placement of 34 million 17 Oct 3: Appointment of new master franchise agreement w ith Al-Mejhem Global Group, new shares (16.92% issued share capital) at $.36 each raising S$11.79 million for capex. W.L.L in the Middle East. 16 Dec 3: Signed 2 master franchise agreements for Malaysia and Philippines. 21 Oct 4: Acquired Megabite, an aw ard-w inning chain of 13 food courts in China for S$11 million. 1 Jun 5: Signed master franchise agreement w ith Crustum Products for India. 13 Jun 3: Listing on $.24 per share raising S$169.5 million. 9 Dec 4: Signed master franchise agreement for Hong Kong & Macau w ith All Global - also franchisee of 2 Jul 5: 5:5 JV w ith Ristoranti Group to launch food atrium at Wisma Atria and 85% investment in Watami chain in Hong Kong. Megabite Hong Kong. 11 Jun 9: Transfer of listing to the MainBoard 12 Jan 9: 6:4 JV w ith Sanpou Co to launch RamenPlay in Singapore and Shanghai. 18 Nov 9: Heads Of agreement to inv est in retail property trust in Singapore. 19 Jun 8: BreadTalk, Aspac F&B and CKE Restaurants announced agreement to open 28 May 9: Establishment Carl's Jr. restaurants in China. of Ramen Play Pte. Ltd. Jun-3 Sep-3 Dec-3 Mar-4 Jun-4 Sep-4 Dec-4 Mar-5 Jun-5 Sep-5 Dec-5 Mar-6 Jun-6 Sep-6 Dec-6 Mar-7 Jun-7 Sep-7 Dec-7 Mar-8 Jun-8 Sep-8 Dec-8 Mar-9 Jun-9 Sep-9 Dec-9 Mar-1 Jun-1 Source: Bloomberg, J.P. Morgan. 15

16 Key assumptions Table 9: Key operating assumptions S$ MM FY6 FY7 FY8 FY9 FY1E FY11E FY12E Revenue Bakery Restaurant Food court Franchise Revenue growth 3% 27% 36% 16% 29% 33% 24% Bakery 16% 24% 38% 16% 31% 22% 22% Restaurant 31% 29% 14% 21% 66% 52% 39% Food court 39% 26% 43% 13% 6% 3% 1% Franchise 156% 45% 46% 19% 3% 5% 31% Number of outlets Bakery Direct owned Franchise Restaurant Food court Revenue per store Bakery Direct owned Franchise Restaurant Food court Revenue per store growth Bakery -25% -3% -2% -7% 1% -9% -3% - Direct owned -19% -3% 1% -2% % 1% 1% - Franchise 37% 9% 1% -9% 1% % % Restaurant -12% 29% -3% -6% -35% -15% -5% Food court 1% % 18% -1% 3% 3% 3% EBIT margin 6.% 7.8% 6.2% 6.6% 4.4% 4.7% 4.9% Bakery 2.9% 4.9% 3.9% 6.1% 4.% 4.5% 4.5% Restaurant 15.8% 16.1% 9.4% 7.9% 5.5% 5.5% 6.% Food court 5.7% 7.1% 8.8% 6.2% 4.5% 4.5% 4.5% EBIT Bakery Restaurant Food court Others (.1).2 (.2).4... EBIT growth 52% 64% 9% 23% -13% 41% 28% Bakery nm 112% 11% 83% -14% 42% 24% Restaurant 2% 31% -34% 2% 16% 52% 52% Food court 36% 58% 77% -2% -24% 3% 1% Source: Company data, J.P. Morgan estimates. 16

17 Industry overview Figure 22: Operating surplus, per store and overall performance, Operating Surplus ($ million) (R) Highly competitive industry According to Singapore Department of Statistics, there were around 6, food and beverage (F&B) services establishments in Singapore in 28, with total operating receipts of S$5.6 billion. This is an expansion of 12.4% in number of establishments compared with 27. The increase in F&B establishments is fuelled by the rising trend of Singaporeans eating out instead of cooking at home. With more Singaporeans joining the workforce and adopting increasingly busier urban lifestyle, dining out has become an easy option. Source: Singstat. Operating Surplus/ Store ($') (L) Figure 24: Proportion of workforce headcounts in F&B establishments in Singapore Abov e 1% Figure 23: Growth of F&B establishments in Singapore 14% 5,939 12% 5, % 4,927 1% 8% 7.3% 6% 4% 2% % , 6, 5, 4, 3, 2, 1, Establishments Grow th Rate % Less Than 1 58% Source: Singstat. Figure 25: Operating profit margin as a % of total revenue 1% 9% 8% 7% 6% 5% 4% 3% 2% 1% % Source: Singstat. 4,646 5,118 5, Operating Surplus ($ million) Operating Receipts ($ million) Source: Singstat. The F&B industry in Singapore remains highly fragmented, with small and medium establishments with employment size of less than 1 accounting for 99.3% of the total market. Competition is intense with many vendors offering the same F&B products. Price, location, convenience, and conducive dining environment are some of the key qualities consumers consider in choosing an F&B establishment. The industry is characterized by low barriers for entry and exit, and large number of players with no single player dominating the industry with intense competition. Operating profit margin within the segment is moderately high at 7% and has remained stable for the past three years. The consistent operating profit margin continues to entice new players to enter the market, and competition within the industry is expected to intensify further. Segment players and industry trends Bringing in international names Singapore is a cosmopolitan city with multi-racial, multi-cultural demographic makeup. Hence, there is a strong demand for cuisines from different cultures. With increasing globalization, Singaporeans are also more willing to try a diverse range of food offerings and crave for established foreign F&B brands. In 21, Kopitiam Pte Ltd acquired franchise rights to open Wendy s fast food restaurant in Singapore and 17

18 plans to launch 35 more Wendy s restaurants in the next decade. This should further intensify competition in the restaurant segment. With rising affluence and an increasingly cosmopolitan society, there will be more international restaurants establishing their presence in Singapore. Rise of premium food courts Following BreadTalk s success in its Food Republic outlets, which feature elaborate décor with themes, other food court operators are upgrading their food courts to provide customers a more premium dining environment. Kopitiam has recently launched Mei Shi Mei Ke in Hougang mall, which features traditional Chineseinspired decorations with strong elements of Teochew culture, reflecting the large Teochew population living within vicinity. Food Junction has also upgraded its chain of food courts to improve customer dining experience. With increasing affluence, more Singaporeans are willing to spend more in food courts in exchange for a premium dining experience, and premium food courts fill in the missing gap between restaurants and basic food courts by delivering both ambience and value. Table 1: F&B chains in different segments Number of outlets (Local) Number of outlets (Overseas) Bakeries & Café BreadTalk & Toastbox Prima Deli 33 Delifrance (Outlets under Auric Pacific) Four Seasons 16 Crystal Jade 11 Bengawan Solo 43 YaKun 28 Killiney Kopitiam 17 Pick and Bite 5 Food Courts Kopitiam & Banquet 98 1 Food Junction 11 6 Food Republic 5 28 Koufu Foodcourts - Koufu 28 - VariNice 8 - Hungry Jack 6 - Fork & Spoon 4 - Gourmet Paradise 1 Total 47 Restaurants Din Tai Fung (under BreadTalk) 8 Crystal Jade Imperial Treasure 5 Thai Village Restaurants 3 2 Tung Lok Restaurants Source: Company reports, J.P. Morgan. Rising consumption of cake in China According to Chinese statistics yearbook, confectionery consumption in China has been rising over the years. Average consumption of cake per capita has increased by 2.2% CAGR over the past five years, and is set to rise further in the future with increasing affluence of the Chinese population and increasing exposure and acceptance of confectionery products in China. 18

19 Figure 26: Annual consumption of cake per capita in China (kg) Highest income Segment Av erage Consumption Source: China Statistics Yearbook 29. Fast growth of bakeries in China Based on Business China s report, bread consumption in China is eight times less than surrounding developed Asian countries such as Japan and Korea. Given the vast, untapped market potential in China, many domestic and international bakery chains have established their presence in major cities and expanded aggressively. 85 C is a chain of successful bakeries based in Taiwan and competes with its premium confectionery products with affordable pricing, appealing to price-sensitive massmarket consumers. ParisBaguette is a chain of bakeries under SPC Group, the largest food company in Korea. Given that the consumption of bread, cake and other confectionery products in China has yet to reach saturation point, more aggressive competition and expansion of major bakery chains are expected in the future. Table 11: Leading bakeries in China Country of origin Number of stores in China Products offered 85 C Taiwan 86 Cake, bread, coffee, other confectioneries Anderson Bakery China (Taiwan investment) 267 Cake, bread, mooncake, other confectioneries BreadTalk Singapore 139 Cake, bread, other confectioneries Christine China 322 Cake, bread, jellies, pastries, coffee, other confectioneries Holiland China 5 Cake, bread, other confectioneries ParisBaguette Korea 34 Cake, bread, sandwiches, coffee, other confectioneries Source: Company reports, J.P. Morgan. Increase in the popularity of western confectionery products in China With rapid urbanization, dietary habits of urban Chinese are gradually changing. Bread is becoming a common staple in urban households due to its convenience to eat on-the-go as well as longer shelf life. With more Chinese working in cities and adopting an increasingly busy lifestyle, bread has become a quick and convenient hunger fix. According to CBNweekly s survey, 91% of white-collared workers in Shanghai make at least one purchase of bread every week, with 75% of respondents spending Rmb1-1 per month on bread. With more disposable income, workers in cosmopolitan areas have more purchasing power and are also more willing to experiment novel food concepts. In 19

20 the same article, 9% of the urban workers surveyed indicated that they would be willing to try new bread products in stores. Based on Business China s interview with China Baking and Confectionery Association, the Chinese baking industry has been growing at a rate of 2% annually on an average over the past few years. According to CommonWealth magazine, the annual consumption of bread per capita in China is eight times less than surrounding developed Asian nations such as Korea and Japan. This shows that the Chinese bakery market has yet to reach saturation point, with ample room for growth and expansion. Increasing acceptance and consumption of bread in major Chinese cities, establishing presence in urban Chinese cities and securing prime retail spaces with high traffic volume will be key factors for BreadTalk s bakery expansion, in our view. 2

21 Company background Figure 27: Revenue breakdown by segment (FY1E) Food Court 26% Franchise 8% Restaurant 2% Source: J.P. Morgan estimates. Figure 28: Operating profit breakdown by segment (FY1E) Food Court 27% Bakery 46% Not just making bread, but creating it Since its inception in 2 with the first BreadTalk bakery in Singapore, the company has since embarked on a series of rapid expansion, diversifying into other segments of the F&B industry such as restaurants and food courts. As of June 21, it has a total of 334 owned and franchised bakeries, 31 food courts and 13 restaurants located in 12 countries across Asia and Middle East, with over 5, employees. Creativity is the key selling point of BreadTalk. It has a dedicated R&D team devoted in developing new bread designs and flavors to meet the ever-changing consumer tastes and preferences. It positions itself as the trend-setter in the pastry business. Around one hundred prototypes are developed each quarter, which are then filtered and tested on the market to see the market demand. Around 6 different varieties of bread are displayed in the bakery outlets everyday, rotated on a regular basis. Business segments BreadTalk Group has three main business segments, each with their unique portfolio of brands and offerings. Restaurant 25% Source: J.P. Morgan estimates. Bakery 48% Bakery Bakery remains the largest revenue driver within the group, accounting for 54% of total revenue for FY1E. The bakery segment focuses on manufacturing and retailing of pastry products, including franchised operations in Asia and the Middle East. Besides the flagship BreadTalk chain of bakeries, ToastBox was introduced in 25 to offer toasts and coffee with a strong local flavor. The recent addition, The Icing Room, provides additional growth opportunity with its innovative concept of allowing customers to design their own cakes. Management plans to have 1, bakeries in three to four years time, with 3% directly owned by BreadTalk, versus the current proportion of 4%. Figure 29: Bakery revenue and growth trend 4% 3% 2% 1% % E 211E 212E Bakery rev enue (S$ million) Y/Y Grow th (%) Source: Company data. 21

22 Food court BreadTalk s core activities in the food court business involve managing and operating food courts and operation of food and drink outlets within food courts. BreadTalk currently has 31 food court outlets located in Singapore, Hong Kong, China and Malaysia, representing c.3% of the company revenue. To distinguish itself from its competitors, Food Republic features elaborate and creative décor to enhance the dining experience. Vendors are hand-picked from a list of established and popular hawkers in Singapore to ensure high quality of food offerings. To further establish itself as a premium food atrium, BreadTalk only chooses to operate in established shopping centers with high traffic volume. Figure 3: Food court revenue and growth trend 5% 4% 3% 2% 1% % E 211E 212E Food court rev enue (S$ million) Y/Y Grow th (%) Source: Company data. Management plans to reach 8 food courts in the next three to four years, with key growth coming from China, comprising key cities such as Beijing, Tianjin, Shanghai, Chongqing, Hangzhou, Guangzhou, and Shenzhen. Restaurant BreadTalk s first venture in the restaurant business was the franchised Din Tai Fung restaurant, with the 22-seat first outlet opened at Paragon in 23. Since then, the chain has expanded to eight outlets in Singapore, strategically located in the prime shopping district of the Orchard Road belt as well as heartland shopping malls with heavy human traffic such as Tampines and Bishan. The company has recently secured franchise rights to operate Din Tai Fung franchises in Thailand, with the first store expected to open this year in Bangkok. In 21, BreadTalk secured another franchise right from Carl s Jr and was given the right to open fast food restaurants in China, under a joint venture with Aspac International F&B Pte Ltd. This foray into the fast-growing fast food business in China should provide optimistic growth for the company. BreadTalk is also experimenting venturing into its own restaurant label. Collaborating with an established Japanese F&B player Sanpou via a 6:4 JV (BreadTalk majority), BreadTalk launched RamenPlay in Singapore and Shanghai in 29. Management plans to have 2 restaurants opened in the next three to four years time, with 5% directly owned by BreadTalk and the other 5% franchised. 22

23 Figure 31: Restaurant revenue and growth trend 7% 6% 5% 4% 3% 2% 1% % E 211E 212E Restaurant rev enue (S$ million) Y/Y Grow th (%) Source: Company data. Franchise model to complement growth strategy Franchising has always been part of BreadTalk s business model to complement its growth. The group currently has 197 franchise bakery outlets across 9 countries, comprising China, Indonesia, Philippines, India, Korea, Vietnam and Middle East countries. Franchise agreements may be signed by countries (e.g. Indonesia, Philippines), cities (e.g. China) or via master franchise agreements to cover several countries, especially in geographical regions that the company might not be familiar operating in (e.g. Middle East). Figure 32: Franchise outlets growth trend FY3 FY4 FY5 FY6 FY7 FY8 FY9 2Q 1 Source: J.P. Morgan, Company data. The franchisee selection process is a stringent one, reviewed by a panel comprising key members of the management team. Franchisees are required to undergo 3-6 months worth of training upon signing on before first outlet may be opened. Furthermore, BreadTalk plays an active role in working with its franchisees on the selection of locations for the outlets as well as their design. Franchisees are also required to procure the pre-mixed ingredients from BreadTalk. These recipes are controlled by the company. BreadTalk also conducts regular visits to the franchise outlets to ensure that the standard operating procedures are being adhered to and that product quality is maintained. BreadTalk currently only has its bakeries under the franchise model although going forward, its newly developed, own restaurant label - RamenPlay - is also expected to be franchised. 23