The bubble tea market in China, once red-hot, is now experiencing a bitter aftertaste, as Nayuki Holdings Ltd. (NYKHF), a major player in the industry, has reported its first-ever half-year loss. The company’s financial report reveals a host of troubling signs, mirroring the industry’s cutthroat competition and the growing consumer caution amidst China’s economic slowdown.
Nayuki’s struggles are highlighted by a significant decline in revenue per store. This is partly attributed to a drop in the average order size, as consumers become more price-conscious. The rising costs of labor and raw materials have exacerbated the issue, causing Nayuki’s store-level operating margin to plummet by 12.3 percentage points to 7.8% during the first half of 2024, a stark contrast to the 20.1% margin recorded in the same period last year. This downward trend resulted in a net loss of 435 million yuan ($61 million) for Nayuki in the first half of 2024, a reversal from the 66 million yuan profit achieved in the previous year.
Nayuki attributed its woes to weak consumer demand, combined with a high base effect stemming from the post-pandemic euphoria of 2023, where people indulged in small luxuries like bubble tea. However, the bubble has burst, leaving a market with weakened consumer sentiment and an oversaturation of bubble tea shops.
The company’s unique position as the sole Chinese bubble tea choice for international investors for almost three years after its Hong Kong listing in 2021 has now been challenged. The entry of ChaPanda (2555.HK) in April 2024, a larger chain that operates exclusively through franchising, shifted the landscape. Several other tea chains, including Mixue, Guming, and Auntea Jenny, are also poised to enter the Hong Kong market, further intensifying competition.
In terms of store count, Nayuki remains a smaller player with approximately 2,000 outlets at the end of June 2024. This pales in comparison to ChaPanda’s 8,385 stores, a 21% increase from the previous year, fueled by its franchising model. At the top of the tea-pot sits Mixue, boasting a staggering 36,000 stores as of September 2023. This aggressive expansion strategy has attracted investor interest, but the overall performance of tea stocks has been lackluster, which may explain the delay in the IPOs of other potential entrants.
Investor sentiment towards ChaPanda’s franchising model is evident in the stock prices. Despite its stock plummeting nearly 60% since its debut, ChaPanda still trades at a higher price-to-sales (P/S) ratio of 1.68 compared to Nayuki’s 0.42. This preference for franchising is further reflected in the valuation of Luckin LKNCY, a leading Chinese coffee chain, which also utilizes a franchising model and commands a P/S ratio of 1.58, similar to ChaPanda.
A closer examination of Nayuki’s financial report reveals a storm brewing in the teapot. The company’s top-line revenue dipped slightly by 1.9% to 2.54 billion yuan in the first half of 2024, compared to 2.59 billion yuan in the same period of 2023. While this might seem modest considering the high base effect, a deeper dive shows a more significant 8% decline in revenue from Nayuki’s self-operated stores. This decline was partially offset by the expansion of its franchising business, which launched in the second half of 2023 and encompassed nearly 300 stores by June 2024.
While Nayuki has been expanding its store count through franchising, it has been outpaced by its rivals. The company’s self-operated store count reached 1,597 at the end of June 2024, a mere 1.5% increase from the previous year. However, the most worrisome aspect of the report is the significant decline in average order size and average sales per store. These trends reflect the growing consumer caution in China, driven by concerns about job security and falling property prices. Consumers are tightening their belts, leading to a reduction in spending on non-essentials like premium teas. This puts pressure on companies like Nayuki, known for its higher-priced offerings, to lower prices. In contrast, competitors like Mixue, with their cheaper products, have a competitive edge.
Nayuki’s average order size fell by 15% to 27.5 yuan in the first half of 2024, down from 32.4 yuan a year earlier. Furthermore, the average orders per teahouse per day dropped by a staggering 27% to 266 from 363 a year earlier. This signifies that more and more consumers are choosing to forgo a bubble tea to save money.
Despite the declining revenue per store, Nayuki’s labor, rent, and raw material costs have increased as a percentage of overall revenue, partly attributed to the franchising expansion. This resulted in significantly lower margins and the aforementioned loss.
Currently, there is little reason for optimism surrounding Nayuki, unless one believes its low P/S ratio represents a buying opportunity. The company is being rapidly overtaken by its more aggressive rivals, and it is likely to remain in the red for at least the next two years. In the meantime, other companies in the tea market are poised to enter the market, offering investors new flavors to choose from in this overheated sector.
