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Café De Coral: Hong Kong’s McDonald’s?
Corporate Digest | 01 October 2014
By: Peter Ng
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By: Shane Goh
Articles (99) Profile

With a six-year long quantitative easing programme (QE) started during the peak of the Global Financial Crisis in 2008 by the US Federal Reserve expecting to bid its farewell next month, many wondered what could be the aftermath on the global economic environment when QE officially ends.

On varying sides, some argued that volatility can be expected in the capital markets as uncertainty looms, while others see the pullback of QE as a positive sign that the general economy is improving and the markets will begin to accelerate upwards.

No answer is right or wrong until QE officially ends. Instead, investors should be querying how they could structure their investments to steer their portfolio through this period of time.

The answer is to be defensive and look out for fundamentally sound companies in industries whose businesses remain resilient even in a rocky economy.

Quick But Not Fast-Food
This is when Shares Investment have stumbled upon Café de Coral (341:HK), a fast-food restaurant company listed on the Hong Kong Stock Exchange, with presence in Mainland China and North America. After all, people have to eat regardless of how the economy performs.

Coined as the McDonald’s of Hong Kong, Café de Coral derives in excess of 80 percent of its revenue from its quick service restaurants (QSR) segment in Hong Kong.

Just like any major fast food chains that can be found around the world, QSRs allow patrons to dine in a restaurant where food and drinks are served promptly along with a relatively affordable price tag.

While the group runs several different names of QSRs under its portfolio, the main key driver of this segment lies in the 153 Café de Coral restaurants.

Despite the similarities to other fast food chains, Café de Coral differentiates itself from traditional fast food chains by being able to cater its menu to the consumption preference of the general population in Asia. This includes a separate menu each for breakfast, lunch and dinner.

Furthermore, as the general population gets more affluent, traditional fast food chains which serve common food items like hamburgers, French fries and fried chickens suffered, as consumption habits experienced a shift towards healthier offerings.

Apart from quick service restaurants, the group has other related businesses in food processing distribution, institutional catering and restaurants of specialty themes.

Healthier offering catering to Asian palate. Source: Wikimedia

Attractive Financials
Café De Coral has posted 18 straight fiscal years of revenue expansion with a compound annual growth rate of 7.2 percent during that period to hit HK$7 billion in the 12 months ended 31 March.

Gross margins have hovered in the range of 13 percent and 17 percent while operating profit bounced between 8 percent and 12 percent.

Apart from a few years of margin contraction, the company’s operating and net profit have charted similar uptrend paths. This highlights a resilient demand for its products through the Asian Financial Crisis and US Sub-Prime Crisis.

On the balance sheet front, Café De Coral has not carried any debt on its books since FY05 while it has built its cash balance from HK$525 million in FY05 to HK$1 billion in FY14. This means that the firm is running on cash and credit terms from its supplies, which is healthy as it will not be affected by any hikes in interest rates.

Café De Coral has recorded positive cash flow from operations (CFO) for the past 19 financial years while cash flow from financing has been largely negative due to the pay down of debt in the years prior to FY05.

Cash flow from investing, which is mainly capital expenditure driven, has not exceeded CFO in any of the years. This means that the amount of cash the company generates is larger than its capital input used to maintain, improve or expand its business.

This has resulted in positive net changes in cash and cash equivalents for 14 of the previous 19 fiscal years.

But Is It Cheap?
Having great financial performance is just one part of the numbers puzzle. The other is paying a reasonable price.

We will explore two valuation methods: price-to-earnings (PE) ratio and enterprise value over earnings-before-interest-taxes-depreciation-and-amortisation (EV/EBITDA).

Over the past five calendar years, Café De Coral’s average PE ratio has ranged from 20.3 to 26.8. On a relative basis, the firm’s peers are trading within a PE range of 16.8 and 26.6, with an average of 22.8.

Year-to-date, Café De Coral’s PE ratio has averaged at 25.8, placing it on the higher end of its five-year historical range and above its peers’ mean.

The company’s EV/EBITDA in the previous five years has rose from 11.9 in 2008 to 16.4 in 2013. Café De Coral’s competitors are currently trading in a range of 7.3 and 13.6, with an average of 9.8.

Year-to-date, Café De Coral’s EV/EBITDA has averaged at 15.6. This means it’s near both the company’s five-year high and above the peers’ average.

SI Research Takeaway
With the impending conclusion of QE, it is anyone’s guess where the markets will go, but we think it’s a safe bet that food consumption will continue tomorrow.

Backed by a strong set of financial numbers, Café De Coral has rode through the past two financial storms relatively unharmed. However, investors may wish to err on the side of caution and sit on the fence until valuations tilt towards the cheaper end.

This is a co-written article of Shares Investment, which lays out the analytical ideas and thoughts of the authors, who are well versed in investments and market concepts.

Join The Conversation
The Shares Investment editorial team welcomes constructive feedback on our coverage and content. We would also be delighted to answer any questions on the above article. Leave us a comment below, and we'll get back to you shortly!

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