BreadTalk - DBS Research 2019-09-05: Food Junction To Weigh On Earnings

BREADTALK GROUP LIMITED (SGX:CTN)

BreadTalk - Food Junction To Weigh On Earnings

We remain neutral on BreadTalk Group (SGX:CTN) after it announced its acquisition of Food Junction for S$80m. Factoring in the effects of the acquisition, we anticipate a drag on margins and earnings due to:
1. lower profitability of Food Junction vis-à-vis its own Food Atrium division; and
2. additional interest costs for financing the acquisition with additional debt of c.S$50m.
Nonetheless, on a positive note, the acquisition will provide BreadTalk with a higher market share in the foodcourt segment in Singapore, as well as a larger earnings base.

Our earnings forecasts are below consensus as we factor in a longer breakeven period for the new 4orth division. The division is in its infancy with scope to increase store count, but this will lengthen the division’s EBIT breakeven period. This unit should be capable of delivering similar margins to the restaurant division in the long term.
We anticipate margins to head lower following the recent Food Junction acquisition as well.

We see potential for a special dividend of up to 4.5Scts if Perennial Real Estate Holdings (SGX:40S) sells AXA Tower.

We maintain HOLD and lower our Target Price to S$0.61 post acquisition of Food Junction. This is largely due to a drag on earnings as a result of interest cost from financing the acquisition. BreadTalk will borrow additional debt of c.S$50m which will raise interest expense going forward.
In addition, Food Junction currently has lower operating margins which we assume will lead to lower operating margins for Food Atrium in FY20F. Our lower Target Price is in line with the reduction in our earnings forecast for FY20- 21F by 8-10%.

Our assumptions for the Food Junction acquisition are:
1. acquisition debt of S$50m along with our assumed interest cost of 2.5-3.5%; and
2. the fifteen Food Junction outlets will contribute to revenue but we impute lower operating margins at Food Atrium Division in FY20F due to Food Junctions’ lower profitability.
Our FY20-21F revenue projection is raised by 6% while operating profit margin assumption for FY20F is lowered to 8% (from 10% previously) before normalising to 10% by FY21F.

BreadTalk’s 100% purchase of Food Junction Management Pte Ltd (Food Junction) for S$80m will consolidate BreadTalk’s position as the third largest foodcourt operator in Singapore, behind NTUC Foodfare/Kopitiam (10+52) and Koufu Group (SGX:VL6) (47).
Food Junction owns 12 Singapore and 3 Malaysia with one more opening next year in Mid Valley Southkey, Johor Bahru, while BreadTalk has 14 foodcourts in Singapore and 2 in Malaysia.

There is no meaningful PE valuation due to losses and low earnings of Food Junction. However, headline P/B valuation is on the high side. The PE valuation is not meaningful given that Food Junction incurred a loss in FY18 and 1H19’s earnings was small. NTA is S$12.3m implying P/B of 6.5x, higher relative to Koufu Group’s < 4x P/B.
BreadTalk will draw down an additional debt of c.S$50m for 5 years to finance this deal.

With NTUC Foodfare buying Kopitiam (2018), Broadway buying S-11 (2018), and now BreadTalk buying Food Junction, the market for chained foodcourts and coffeeshops is indeed consolidating. Larger F&B firms continue to seek market share and expansion in this space by taking out smaller players. With fewer leading foodcourt players in Singapore, their bargaining power may strengthen in the future.
We believe the acquisition will also exceeds fixed costs, there is high-margin potential.

We continue to like Koufu Group (SGX:VL6) which is a BUY on favourable valuations and better growth traction, while our call on BreadTalk remains a HOLD as we believe earnings drag from the acquisition will limit upside.

Alfie YEO DBS Group Research | Andy SIM CFA DBS Research | https://www.dbsvickers.com/ 2019-09-05

SGX Stock Analyst Report HOLD MAINTAIN HOLD 0.61 DOWN 0.77