Cake Box publishes impressive half year results, but can their growth story continue?

Cake Box Holdings is a franchise retailer of cakes with a growing store base across the UK. It was listed on the AIM on the 27th June 2018.


The Group specialises in making high quality, individually crafted and personalised fresh cream cakes for purchase on demand or ordered in advance in store or online. The Group’s cakes are completely egg free, which allows the Group to service a large potential market, including those customers who are unable to eat eggs for dietary or religious reasons.


The Group released their half year results for the period ended 30 September 2021 on Monday 8th November. Commenting on their strong results, the CEO Sukh Chamdal stated "[w]e were born in the recession in 2008 and this [set of results] proves that we're pandemic-proof. Any crisis happens and you want a cake." But how long can their growth continue, and is this business really future-proof? This article will break down the company's recent results and analyse the investment case.


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History


The egg-free cake was conceived by Sukh Chamdal, the founder of Cake Box, in July 2008. In 2008, Chamdal was a chef working in London's East End. For her birthday, Chamdal’s daughter told her father, “I don’t want eggs in my birthday cake” and so he made it his mission to find, or create, a celebration cake that didn’t use eggs in the batter. After realising this gap in the market, Chamdal received a £30,000 government grant and teamed up with South Bank University, tasking them with developing an egg-free cake. The students were successful. Shortly afterwards, when a shop in the East End fell vacant, Chamdal opened his first egg-free cake shop.


The concept proved extremely popular, and by March 2009, Chamdal had partnered up with family friend and qualified accountant Pardip Dass, who had over 15 years experience in the food & beverage industry working for companies such as Masala Zone, Group Chez Gerard Restaurants and Real Pubs to set up Cake Box.


The Group’s early success arose from their egg-free offering, addressing an unserved market of people who either had an egg allergy or observed a lacto-vegetarian diet. As the Group has grown, the business has increasingly appealed to a broader customer base who purchase the Group’s cakes despite not requiring egg-free products, thus reducing the Group’s reliance on a single demographic. Another factor that makes Cake Box appealing to consumers is the option for instant personalisation. The cakes can be personalised to celebrate any occasion either at the stage of ordering or on collection in the store, a factor that makes them stand out in the celebration cake market.


Business Model


The Group has grown predominantly through franchise expansion and today does not directly own or operate any Cake Box stores (although the Executive Directors have all previously run their own franchise stores). As of the 30th September 2021, the Group has 174 franchise stores in operation, with 20 new franchise stores added in the period Q2’22.


The image shows Cake Box's revenue sources for the year ended 31 March 2018 as a pie chart. Cake supplies accounted for 30% of revenue; sponge sales accounted for 38% of revenue; store fit out accounted for 13% of revenue; franchise fee accounted for 5% of revenue; equipment accounted for 2% of revenue; other accounted for 2% of revenue; and rental income accounted for 1% of revenue.
Cake Box's Revenue Sources; Admission Document 2018

The Group’s revenue is predominantly derived from supplies of sponge and other products to its franchise stores (other products consist of ancillary celebration products like candles and balloons, which are also supplied by the Group); this revenue is recurring in nature as the franchisees require regular supplies in order to operate their stores (see image below). The franchisee is responsible for assembling, decorating and personalising the cakes from the items supplied to it by the Group in accordance with the training and guidelines provided by the Group. The Group manufactures and supplies all of the sponge used in Cake Box cakes from its headquarters in Enfield (South East distribution centre), and its distribution centres in Bradford (North) and Coventry (Midlands and South West). Other revenue is derived from franchise fees, store fit outs (for new stores and refurbishments after five years) and equipment supplies.


The image shows Cake Box's business model. They get their equipment and packaging from the far east and Devon cream and fresh fruit from the UK and Europe. These then travel to their Head Office in Enfield and their distribution centres in Enfield, Bradford and Coventry. From there, these are delivered to Cake Box stores, along with other supplies such as candles and balloons and sponge that has been made in the three distribution centres. Then customers come and collect their cakes from the Cake Box store.
Source: Cake Box's FY'20 Annual Report

The Group also has a well-developed and growing online platform through which customers can order cakes. Online orders are sent through to a store selected by the customer and the Group takes a royalty fee of 7.5% on the order. All cakes are then collected in store. The proportion of online sales is a growing percentage of total sales.


The franchise model enables the Group to expand without the requirement for any external capital and reduces its risk profile, as it does not need to enter into any leases or manage employees at a store level. As store operations are undertaken by franchisees, the Group’s management is able to concentrate on growing the Group’s business.


​​The appeal of the Group's franchise proposition is reflected in the current pipeline of new potential franchisees; in the HY'22 period, the Group had a record 62 deposits held at period end.


Management


The images show photographs of Cake Box's management team. Information surrounding the management team and their share ownership in the company is explained under the image.
Source: Cake Box's FY'21 Annual Report

The image above shows Cake Box's management. Sukh Chamdal, who opened the first Cake Box in 2008, acts as the company's CEO, whilst Pardip Dass, who joined Sukh in 2009, acts as CFO. Both Sukh and Pardip hold substantial holdings in Cake Box to this day, with Sukh holding roughly 32% of share capital and Pardip holding roughly 10%. Dr Jaswir Singh, the company's COO, who joined in 2010, holds 1.39% of the company, whilst Neil Sachdev, non-executive chairman with previous experience in Tesco and Sainsbury's, holds 0.05%. With a combined share capital of roughly 43.5%, Cake Box's management are highly aligned with shareholders — a positive sign.

The image shows the four men seen in the image above and the proportion of share capital that they own in Cake Box. This is explained in the paragraph above this image.
Source: Cake Box's FY'21 Annual Report

Competitors


As previously stated, Cake Box is primarily focused on celebration cakes. This segment of the market, together with occasion cakes, puddings and large cakes, was estimated at c.£715 million in 2017, comprising 32% of the overall UK cake market. In relation to the celebration cake market, Cake Box competes against a wide range of operators including large supermarket chains, café chains and independent bakeries. Some of the most famous of these include brands such as Paul, the French patisserie who now boast over 37 UK locations; Lola's Cupcakes, with 19 stores across the UK and an option to collect from one of their 13 refrigerated lockers and Hummingbird Bakery, with six shops across London. However, it is clear from the store numbers for each of these brands that nobody has the scale to compete with Cake Box's 174 stores (see Future Growth Drivers for more information on the location of Cake Box's stores).


In the below infographic taken from Cake Box’s Admission Document in 2018, Cake Box compares themselves to other competitors within the sector on the features (seen in the first left column) that they deem make their business a unique proposition.


The image shows the eight features that Cake Box deems are important to its business: instant personalised messages, fresh cream, photo cakes, wide selection of cakes, click and collect options, same day ordering, large parties and egg free. The image shows that in comparison to its three types of competitors (national operator of large food superstores, national retailer with upmarket food offering and national operator of cafes), Cake Box is the only provider that can offer all of those features.
Source: Cake Box's 2018 Admissions Document

As you can see from the image above, Cake Box believe that their unique offering of fresh cream, egg-free cakes, combined with the instant personalisation, same day/online ordering and their 1hr click & collect service differentiates them enough from supermarkets, cafés and independent bakeries to ensure future growth.


Recent Performance


The table shows Cake Box's half year 2022 results to the comparable period half year 2021. It shows that Cake Box's revenue grew by 91.8%, their gross profit grew by 83.1%, their EBITDA grew by 109.1%, their pre-tax profit grew by 122.2%, their net cash grew by 9.2%, their cash at bank grew by 4.3%, their earnings per share grew by 116.2% and their interim dividend grew by 35.1%.
Source: Cake Box's HY'22 Report

The Group delivered very strong half year results to the comparable HY'21. Revenue was up 91.8% to FY'21 driven by a net opening of 20 more Cake Box franchises and strong like-for-like sales growth of 13.7% in each existing Cake Box shop.


This fantastic result in terms of top line growth also pulled through to profits, with a 122% gain in pre-tax profit for the group, showing that Cake Box's capital light, highly profitable franchise model is working to deliver cash to the bottom line.


Cake Box management stated that one of its key growth strategies in the coming years — the Asda Kiosk — has completed trials at 7 sites successfully and will continue its UK roll out in the coming year.


Future Growth Drivers


The company aims to hit 250 stores across the UK (current total 174, with a target of at least 2 stores per month. As a comparison, Patisserie Valerie, the popular British bakery/confectionery company, had 170 stores in the UK before it went bust), and there is clear demand from prospective franchisees. The Group are targeting a total of 32 new franchise store openings in FY’22, which is underpinned by a record number of deposits from prospective franchisees and openings to date during the year. The group are picky with their franchisees and undertake a rigorous recruitment and vetting process to ensure that each of the stores are as successful as possible.


The Group have also completed a successful trial of 7 Cake Box kiosks within Asda supermarkets across the UK. These kiosks are run by existing franchise holders, who service the kiosks with produce from their local stores. These kiosks each take around the same amount in revenues as a traditional high street outlet (£7000 per week) and have limited additional overheads and relatively low capital outlay when compared with the set-up costs of a new store, with CFO Pardip Dass stating "for us, a new location [in ASDA] is just as good as opening a new high street store." The Group have added a further 4 kiosks since 30 September 2021, bringing the total kiosks currently open to 11, and will continue to increase the number of kiosks during the remainder of FY’22.


When reviewing Cake Box's possible future growth, it's important to understand that really, while it is important that the underlying product (cake) is enticing to customers, the most important pillar of future growth arises from current and future franchisees willingness to open more units. This is the critical question for me as a potential investor — with a target of 250 UK stores, there only looks to be a couple of years left until Cake Box franchisees hit the parent group's target. On one hand, the graphic below suggests Cake Box's stores are fairly concentrated around the urban cities of London, Coventry and Bradford, with a sparse peppering of stores in areas further from the central spine of England. There is only one store in Scotland, which could be an area for potential growth (Glasgow Cake Box reviews are a solid 4.3* on Google). However, the further a franchisee places themselves away from the three distribution centres of Bradford, Coventry and Enfield, the less profitable their franchise will likely be. (The graphic below is taken from Cake Box's 2021 Annual Report, so store numbers do not reflect the current amount of stores and kiosks open.)


The image shows where Cake Box's stores are located. At the time (this image was taken from Cake Box's 2021 full year report) Cake Box had 56 stores and 4 kiosks in London within the M25; 38 stores and 2 kiosks in the South East; 3 stores and 3 kiosks in the North East; 9 stores and 3 kiosks in the North West; 11 stores and 2 kiosks in Yorkshire; 16 stores and 2 kiosks in the East Midlands; 21 stores and 5 kiosks in the West Midlands; 2 stores in Wales and 1 store in Scotland.
Source: Cake Box FY'21 Results Presentation

An important consideration as to the number of stores Cake Box can squeeze into the UK is also franchisee satisfaction. We can go some ways to measure current franchisee satisfaction by the amount of franchisees who own multi-units. According to Cake Box's FY'21 presentation (see image below), 57% of franchisees own 2 or more stores, with 23% owning 3 or more. This distribution, with over half of the franchisee base coming back for another unit, is a good sign the parent group is keeping its franchisees happy (something other master franchisers struggle to do).


The image shows how many franchisees have begun their multi-site journey; 30 franchisees have 1 store; 23 franchisees have 2 stores; 8 franchisees have 3 stores; 0 franchisees have 4 stores; 2 franchisees have 5 stores; 4 franchisees have 6 stores; 1 franchisee has 7 stores; and 1 franchisee has 8 stores.
Source: Cake Box's FY'21 Annual Report

A further area for expansion for the Group came as a result of Covid-19: cake home delivery. As the national lockdown came into place at the end of March 2020, the Group were piloting a home delivery service using custom made packaging. The delicate nature of the cakes had restricted Cake Box from offering this service previously. However, the Group began to utilise home delivery services such as Uber Eats, which was followed closely by Just Eat and Deliveroo.


The image shows the proportions of home delivery sales split between Uber Eats, Just Eat, Deliveroo and Website Delivery. Uber Eats are the dominant partner to Cake Box for home delivery, although their website deliveries have been steadily growing since September 2020 and now make up a fair proportion of their home delivery sales.
Source: Cake Box's FY'21 Annual Report

I think, looking at all the possibilities for Cake Box, there are likely enough opportunities for the business to grow into over the medium term (3-5 years) with incremental rises in shop units and the partnership with Asda offering growth potential. However, long term growth of UK shops may be difficult to keep up (given the product offering is less daily use, more special occasion). International growth could be a possibility, at least much more of a possibility than other British franchise staples such as Greggs plc, that have no chance outside British waters (pasty trials in Europe failed terribly). Cake is a product that is liked by many different cultures, and the potential to base overseas business in areas with high asian demographics and grow from that platform could be a viable strategy, as it is proven to have worked in the UK.


Financials


The image is a table that shows Cake Box's revenue, revenue growth, gross profit, gross margin, operating profit, operation margin, debt to equity ratio and ROCE. All important features of this table are explained in the paragraphs directly underneath.
Source: The Twenties Trader

As you can see from the financial table above, Cake Box has grown revenues throughout the period 2017-2021, despite the difficulties surrounding Covid-19. Whilst revenue has somewhat tapered from high growth rates in 2017 and 2018, full year 2022 will likely see Cake Box's growth come back with a vengeance given the blow out results seen in the half year report.


Cake Box's gross margin has also grown consistently since 2017 from 41.4% to 49.8%. At nearly 50%, Cake Box's gross margin is slightly lower than leading franchise businesses such as Greggs, however, this is likely due the fact that Cake Box isn't yet at full capacity with regards to its existing distribution infrastructure. The fact margins have improved YoY is a sign that with more franchise scale, margins are improving.


Their operating margin, although dropping slightly in 2021, has been strong. 20%+ is certainly suitable by quality investing measures, and has dropped from 26% highs seen in 2018 due to the increased cost of setting up distribution infrastructure. Return on Capital Employed (ROCE) has also been strong, consistently above 30% as a result of Cake Box's capital light franchise model.


Valuation and Summary


Cake Box trades on 30x earnings estimates for FY 2022 and 26x earnings estimates for full year 2023. I think this valuation fairly reflects Cake Box's results and proposition going forwards.


Many aspects of Cake Box's business are appealing as an investment. The unique proposition Cake Box fulfils has hit a sweet spot with the UK consumer, and in turn has generated consistent growth in franchise units. The business is run by its founders (who own >40% of the equity, a great sign that management is aligned with shareholders) and the operations are run by franchisees, who are highly motivated to make their own units a success. Due to the franchise's capital light structure, revenues are dependable and return on capital is high, allowing for cash to be injected back into the business or returned to shareholders.


However, this is still a story in its infancy. Management's 250 store target, although realistic, is a little underwhelming considering some popular listed franchises have unit targets in the thousands. Given Cake Box seems to have good management and impeccable financials, I think any investment decision would have to come down to whether you think Cake Box can keep growing franchise units past its target of 250 (and through its Asda partnership) or whether (and forgive me the pun) the large majority of cats have already got the cream. I'm inclined to believe the former, and think that Cake Box could be a suitable addition to the Twenties Trader portfolios in due course. I will be keeping my on eye on the company.


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At the time of writing, The Twenties Trader did not own shares in Cake Box plc.


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