After reading the prospectus of Xiaocaiyuan, I realized that my old classmate is doing much better than I thought

My first classmate to carry a luxury bag was a young man from a small town who returned to his hometown immediately after graduating from university. In addition to owning a prestigious brand bag as a symbol of status, the difference between him and me, a white-collar worker in a first-tier city, is also reflected in the fact that he eats out more often than I eat regular meals. He is afraid that his brothers will live a hard life, yet he is also afraid that his brothers will drive Land Rovers. Even the small vegetable garden with stores concentrated in second and third-tier cities is living a better life than many chain restaurants. Surprisingly, the one sitting in the top spot in the mass Chinese catering industry is a small vegetable garden, despite the unexpected success of Xiabu Xiabu, which sells children's meals at sky-high prices, and the green tea with internet celebrity genes. By relying on third-tier customers to earn first-tier income, the small vegetable garden could have thrived for a lifetime, but the industry's fierce competition will eventually affect everyone. Those who are overly competitive will eventually open a store next door, and the small vegetable garden is destined to leave the small town.

I. The Nourishing Life of Small Town Youth Established in June 2013, the small vegetable garden is a chain restaurant mainly serving Anhui cuisine, with 599 stores and pricing ranging from 50 to 100 yuan. Its most prominent feature is that 57% of its stores are located in second and third-tier cities. The young people in these small towns have been the backbone of its development for many years. Source: Small Vegetable Garden Prospectus

As transportation networks and entertainment facilities become more complete, and job opportunities expand from the traditional roles of teachers, police officers, and nurses to include tour guides and livestreaming hosts, under the increasing urbanization rate in China, the living standards of people in second and third-tier cities are not low. Take my old classmate, for example, who has owned three iPhones and likes to buy Nike and Adidas. Although his salary is not high, he is self-sufficient and has no pressure. His lifestyle is a typical portrait of a small town youth consumer—low stress, stable income, and free time. This consumer portrait also gives non-first-tier city residents higher consumption potential.

The essential daily needs of small town youth, such as dining out occasionally, are one of the most valuable consumer potentials to tap into. Based on the 2023 store revenue, "Small Vegetable Garden" ranks first among all brands in the Chinese mass Chinese catering market with an average price range of 50-100 yuan, followed by Xiabu Xiabu, Green Tea, and Tai'er Pickled Fish, which have stores clustered in first and new first-tier cities. From the performance data, the revenue growth of the small vegetable garden has not stopped even under the impact of the black swan event of the COVID-19 pandemic in the catering industry. With the positive effects of the end of the epidemic in 2023 and the expansion of stores, all indicators have rapidly improved. 2021 to 2023, Xiao Caiyuan's revenue was 2.64 billion yuan, 3.21 billion yuan, and 4.55 billion yuan, with a compound annual growth rate of 31.1%. The revenue for the first four months of this year also increased by 12.0% year-on-year, reaching 1.68 billion yuan. From a business perspective, both dining in and takeout have flourished, achieving varying degrees of growth. What's even more impressive is that Xiao Caiyuan, which mainly serves third-tier cities, has not used pre-made dishes so far. Despite having similar or even lower customer prices, my old classmates eat much better than I do. Whether it's Tai'er sour fish, Fei Chef, New White Deer, or Encounter Noodles, these chain restaurant brands all share the same Shuhai supply chain that provides one-stop services. The performance of pre-made dish giants like Anjing and Qianwei Yanchu, which are on the rise, also indicates that for white-collar workers living in first-tier cities, not being able to eat pre-made dishes when going out has become a urban legend. The courage given by young people from small towns has allowed Xiao Caiyuan to sprint all the way while everyone else is being cautious during the economic downturn in recent years, setting a goal of exceeding 1,100 total stores by the end of 2026. This means that in the next 3 years, the number of Xiao Caiyuan's store expansions will surpass the total of the past 10 years. In terms of store network distribution, Xiao Caiyuan's main expansion direction is currently first-tier and new first-tier cities. However, Xiao Caiyuan from a small town may not necessarily withstand the pressure of big cities. II. Pressure from Big Cities For young people from small towns, the pressure from big cities comes from housing prices, while for Xiao Caiyuan, it is rental costs. A proper meal is a dining experience-oriented catering service, with the most significant feature being large stores. Xiao Caiyuan currently has a total of 599 stores, all of which are self-operated. In order to provide the best service to consumers, Xiao Caiyuan's store area is usually 300 square meters. Under the overall Huizhou architectural style, the dining atmosphere at Xiao Caiyuan is indeed pleasant. Source: Prospectus However, the larger the store area, the higher the rental costs. For catering enterprises, under the heavy pressure of the three major costs of labor, raw materials, and rent, any increase in one of them may become unbearable for the enterprise. In the 2023 fiscal year, Xiao Caiyuan's employee costs were 1.33 billion yuan, accounting for 29.4% of the period's revenue. Raw materials and consumables were 1.43 billion yuan, accounting for 31.5% of the period's revenue. Depreciation of right-of-use assets (mainly referring to store depreciation expenses) was 190 million yuan, accounting for 4.3% of the period's revenue. Compared to 4.9% for Lvgtea, 5.3% for Xiabuxiabu, 8.1% for Jiumaojiu, Xiao Caiyuan's 4.3% is relatively low in the industry. However, this ratio is somewhat attributed to the distribution of stores in third-tier cities with low rental costs. After Xiao Caiyuan expands its stores to first-tier cities, store depreciation costs directly increased by one percentage point As of the four months ending on April 30, 2024, the depreciation of the right-of-use assets as a percentage of revenue for the period was 4.9%, compared to 3.9% in the same period last year, corresponding to the gradual increase in income from first-tier cities. Along with the increase in income, costs have also increased. When profitability replaces scale as the focus of attention, this performance will sooner or later face the judgment of the capital market. For capital, they do not care whether the dishes are good or not, but focus on the performance of financial indicators such as customer unit price, sales per square meter, and table turnover rate while the rental cost of the small vegetable garden is rising. The customer unit price and table turnover rate of the small vegetable garden are not high, at 50-60 yuan and 3.1 times respectively, while the table turnover rate of green tea is 3.3 times, with an average consumption of 60-80 yuan per person. The table turnover rate of Tai'er Sour Fish has reached 3.9, and although the customer unit price has dropped significantly, it still remains at a high level of 69 yuan. The small vegetable garden, which is positioned as a mass-market convenience store, cannot elegantly raise prices. Apart from the signature dish "Stinky Mandarin Fish," which is a famous dish from Anhui cuisine, other home-cooked dishes lack the scarce ingredients found in Fujian cuisine such as Buddha Jumps Over the Wall and Chicken Lips. There are also no masterful dishes that test knife skills like Shredded Three Delicacies and Braised Fish Head from Huaiyang cuisine, naturally insulated from high prices. This means that the small vegetable garden will face increasingly heavy rental burdens while finding it difficult to pass on costs to consumers through price increases, making profitability uncertain. Third, being broke is the original sin. People who have lived in small towns should have experienced the pain of "marriage not being free," but sometimes it makes sense when your father doesn't let you marry a poor boy. In the first four months of 2024, the net profit of the small vegetable garden has already decreased by 7.3% year-on-year. Looking at the balance sheet, as of the latest data, the company's cash and cash equivalents amount to 630 million. Calculated at an investment cost of 1.5 million per store, the current funding is not enough to support the small vegetable garden in expanding its stores to the scale of the total sum of the past 10 years. More crucial than opening new stores at the moment is the fact that the small vegetable garden has a bet agreement in place! As of now, the company has conducted 2 rounds of convertible bond financing and 2 rounds of preferred stock financing, raising a total of 500 million yuan. However, these financings come with many terms. For example, if it fails to complete the CSRC filing within 18 months or fails to go public within 12 months after the hearing, it may trigger a buyback. The burden of the bet agreement explains why the small vegetable garden urgently updated its prospectus after the original one became invalid, as if it does not go public soon, it may not be able to repay the principal and interest of the convertible bonds The core logic of valuing chain restaurants in the capital market is the single-store indicator multiplied by the number of stores. If the single-store model is successful, as long as the company continues to open stores, the company's valuation can grow exponentially. However, from the perspective of same-store performance indicators, Xiaocaiyuan's single-store model has not been fully successful. Whether it is dining in or takeaway, the latest data shows a year-on-year decrease in same-store sales volume. After completing the second round of preferred stock financing in January 2024, Xiaocaiyuan's valuation reached 10 billion RMB. The adjusted net profit for the first four months of this year has already shown negative growth. Even with optimistic expectations for this year's profits compared to the peak year of 2023 when the epidemic was lifted, its PE ratio is about 18 times, significantly higher than the industry average of 14 times. The revenue growth for the first four months of this year increased by 12.0% year-on-year, with a compound annual growth rate of revenue for the past three years at 31%, and a compound annual growth rate of store openings at 25%. The plan for 2024 is to open 160 stores, 40 more than in 2023. Assuming that store openings and revenue are positively correlated, the revenue in 2024 is likely to achieve approximately 30% growth. That is, the total revenue in 2024 is estimated to be 5.9 billion RMB. Based on a valuation of 10 billion RMB, the PS ratio is 1.7 times, higher than the industry average of 1 times. However, my expectations are clearly optimistic. Before the single-store model is fully successful, the above valuation logic is not valid. Nine Maojiu, which has a similar number of stores to Xiaocaiyuan and the same continuous store opening logic, was only given a PS ratio of 0.6 by the capital market after its performance declined by 70%. Obviously, the story of opening stores is no longer attractive to the capital market. As of 2023, Xiaocaiyuan's proportion of loss-making stores is 10%. If it cannot ensure that each store achieves positive revenue and existing stores achieve sales growth, the partial revenue growth brought by new store openings will be offset. In short, the 10 billion RMB valuation is too high. Conclusion: Whether it's small-town youth or frontline white-collar workers, the fundamental demand for three meals a day remains unchanged. However, under the impact of the economic slowdown, the possibility of consumption downgrading in contemporary society may catch any chain restaurant company off guard. When a dish clearly labeled as pre-made sour cabbage fish sells like hotcakes on Douyin, everyone should be alert to the depth and breadth of the cold winter in the chain restaurant industry. Under a collapsed nest, how can there be intact eggs. Under the influence of the economic slowdown, the natural endowment of dining as a necessity with high repurchase rates has allowed the industry to survive better than many others. However, from an investment perspective, companies without scale, brand, and financial advantages should be especially cautious, because once the funding chain is broken, they may disappear without a trace ​