Ceylon Cold Stores PLC Initiation Report

Ceylon Cold Stores INITIATING COVERAGE
COMPANY REPORT
SELL EQUITY RESEARCH-SRI LANKA
CCS SL EQUITY
Current Value Estimate: LKR 597
Consumer Staples-Soft Drinks
Current Market Price: LKR 930
Downside: 35.8%
Date: 28 April 2017
Optimistic Foreign Investors Overshoot Key Stock Data

Fundamental Trajectory… in LKR Mn FY 2014 FY 2015 FY 2016 FY 2017E
Divestment Case Revenue 23,614 27,699 34,069 42,837
EBIT 1,541 2,160 3,896 4,554
Upward movements in share price surpassed good earnings
NET Profit 1,218 1,525 2,875 3,470
growth
EPS 13 16 30 37
We issue a sell recommendation despite believing that CCS’s earnings will
Change in EPS -34.4% 25.3% 88.5% 20.7%
continue to perform well given favorable demand conditions in the
Debt/Equity 56% 55% 61% 60%
industries of their business segments and large investments. This is due to
EBIT Margin 6.5% 7.8% 11.4% 10.6%
the share price movements triggered by optimistic foreign investors
ROE 12.7% 14.8% 25.0% 25.0%
resulting in a surge that surpassed the earning potential of CCS. Therefore,
the share is overvalued, and we recommend locking in gains.
Valuation
An influx of foreign buyers has resulted in overvaluation
CCS: SL is currently trading at a trailing 12M PER of 24.7x and EPS of LKR
38.89. Furthermore, the current price of LKR 930 is at a 55.8% premium to
our estimated current value of LKR 597. We have arrived at our estimate
based on a weighted average of DCF and relative valuation. Included in our
DCF valuation were CCS’s large scale investments and adverse short-term
impact of the drought on CSD and ice cream volumes.
Catalysts
Further increases in excise duty on carbonated soft drinks a
possibility
Column1 As at 28 April 2017
Currently the excise duty on CSDs is LKR 12 per liter, and its last revision
occurred in 2012 which was a 50% increase from LKR 8 per liter, making a Next Results May-17
possible upward revision in the near future, likely. In the last quarter of the Market Capitalization (in millions) LKR 88,387
calendar year 2016, the excise duty on soda was increased from LKR 12 to Shares Issued 95,040,000
LKR 25 which further strengthens our case for a possible increase in excise
Free Float 10.6%
duty on other CSDs. The implication of this is a further deceleration in the
growth of CSD market volumes. 52-week High/Low 1,000/457
Average Monthly Volume 155,161
Comment Trailing 12M EPS 38.89
CCS’s low free float has liquidity implications which will Current P/E Ratio 24.7x
results in large price swings
Current P/B Ratio 6.74x
CCS’s low free float of 10.57% has increased the illiquidity of its stock.
Therefore, unusually large price swings can result in the future due to
Largest Shareholder - John Keells
70.61%
factors and events that are not fundamental to CCS’s business. Holdings PLC
*Source of table data: Bloomberg, CSE, JBS Research
Analyst: Nishara Sangapalaarachchi – [email protected] Corporate Governance Score

Important disclosures are included in page 57 of this report
*This corrects the previously stated “target price” to “current
Produced by: JB Securities value estimate”
Distributed by: Jefferies Group LLC,
Including Jefferies LLC in the U.S
150, St. Joseph’s Street, Colombo 14, Sri Lanka. T: +94 11 2490900, E: [email protected], W: www.jbs.lk April 2017
Ceylon Cold Stores PLC
Table of Contents
1. Investment Hypothesis ......................................................................................................... 3
2. Business Description ............................................................................................................. 6
2.1. Manufacturing ........................................................................................................................ 6
2.2. Retail ....................................................................................................................................... 6
2.3. Financial Snapshot .................................................................................................................. 7
2.4. Segmental Performance ......................................................................................................... 8
2.5. Governance and Management ............................................................................................... 9
2.6. Historical Timeline .................................................................................................................. 9
2.7. Top Twenty Shareholders ..................................................................................................... 10
3. Non-Alcoholic Refreshment Beverages ................................................................................ 11
3.1. Demand drivers indicate a challenging outlook for the CSD industry .................................. 11
3.2. Elephant House has achieved a superior competitive positioning ....................................... 18
3.3. Productive efficiency is expected to improve ....................................................................... 24
4. Frozen Confectionery .......................................................................................................... 27
4.1. Demand drivers provide a favorable outlook for the industry ............................................. 27
4.2. Elephant House has a superior competitive position ........................................................... 31
4.3. Productive efficiency gains to be achieved in the long term ................................................ 35
5. Modern Retail .................................................................................................................... 36
5.1. Demand drivers provide a favorable outlook for the industry ............................................. 36
5.2. Competitive positioning of Keells Super is expected to improve ......................................... 43
5.3. Productive efficiency gains will be expected ........................................................................ 46
6. Valuation ........................................................................................................................... 49
6.1. Discounted Cash Flow ........................................................................................................... 49
6.2. Relative Valuation ................................................................................................................. 51
7. Ratio Analysis ..................................................................................................................... 52
8. Corporate Governance Analysis .......................................................................................... 54
9. Glossary ............................................................................................................................. 56
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1. Investment Hypothesis
Our current value estimate of Ceylon Cold Stores (CCS) is LKR 597, which is a 35.8% discount to the
current market price of LKR 930. Our current estimated value is arrived at using DCF and relative
valuation. The DCF valuation incorporated the sum of the parts methodology where the
manufacturing segment contributes a larger proportion to the DCF fair value. The stock currently
trades at 25x twelve months trailing earnings. We feel that the current stock price is overvalued and
driven up due to its low free float and demand from foreign investors. The significant discrepancy
between the relative valuation and DCF valuation is due to Sri Lanka’s higher risk free rate relative to
the countries of emerging Asia Pacific countries that were the chosen peers for relative valuation. As
a result, our DCF valuation was depressed by this higher risk free rate.
We believe that the impact of this year’s drought on incomes and discretionary expenditure will
dent revenues and profits in FY 2018. Furthermore, CCS experienced an exceptional year in FY 2016
due to declining raw material prices and a boom in consumer sentiment due to public and private
sector wage increases in 2015 emanating from an electoral pledge, suspension of the VAT increase
and high credit growth. Therefore, the results reported in FY 2016 will be difficult to sustain moving
forward in the face of tightening fiscal and monetary conditions. However, surpassing these short-
term challenges, we believe CCS has satisfactory earnings prospects in the long term, which will be
enhanced by their new investments. However, they will face adversity in the carbonated-soft drinks
market as the population of health-conscious consumers continue to expand.
Our outlook on CCS’s beverage segment is challenging in the short term
Carbonated soft drinks market to experience a deceleration in volume growth…
The CSD market is currently facing adverse volume effects. This is due to an exceptional but
unsustainable volume performance in FY 2016, brought about by a favorable operating
environment. Furthermore, the drought experienced in several parts of the island in early 2017,
adversely impacted agricultural employees’ output and therefore their incomes. This forced a
cutback in their expenditure on discretionary items such as CSDs. The drought’s impact on CSD
market volumes will prolong for the rest of 2017. Consequently, we expect steep market
contractions in the first half of 2017 with a growth of -12.5% followed by less steeper declines in the
latter half of 2017. We believe a deceleration in long term growth of the CSD market is to be
expected with the expanding health-conscious population and further tightening of governmental
regulations to curb the consumption of unhealthy CSDs.
CCS to maintain its slight lead in the competitive landscape…
CCS has achieved CSD market leadership with a 40% share through its appeal to the local consumers
and wide choice offering. Elephant House is a one-hundred and fifty-year-old, heritage brand that
symbolizes the elephant, a respected animal in the local culture. It also empowers consumers with a
large flavor choice in their beverage portfolio. Going forward, CCS plans to capitalize on the trend of
increasing health consciousness by releasing more natural beverages, whilst its peers, Coca Cola and
PepsiCo are still heavily reliant on CSDs.
Longer payback period for CCS’s investment in new factory…
CCS’s new factory will expand the production capacity of PET bottles and is expected to be in
commission mid-2019. The factory will be more technologically advanced relative to the existing one
thus aiding a decline in cost of production per unit through achievement of various efficiencies.
However, the approximately 50%-60% capacity expansion will be catering to decelerating volumes in
the medium term. Although the management has begun releasing more non CSD beverages, CSDs
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still comprise 95% of their portfolio. We believe this heavy reliance on CSDs will continue in the
medium term consequently slowing the volumes and revenues to be generated from the new
factory. The time period taken to reach high levels of utilization and benefit from scale economies
will be longer.
We maintain a stable outlook for CCS’s frozen confectionery
Short term dent in frozen confectionery market volumes…
The impact of the drought on the incomes of agricultural sector employees will have a similar impact
on frozen confectionery volume in 2017 as it will on CSDs due to their discretionary nature.
However, we believe that volumes will recover and maintain stability as they face a lower threat
from the emergence of health-conscious consumers. Ice creams are a form of dessert and thus
consumed primarily for indulgence purposes. Furthermore, they are not subject to rigorous excise
duties and government regulations as opposed to CSDs. A tailwind for the frozen confectionery
market is the rising refrigerator penetration in households from its current level of 53%, which will
facilitate growth in take-home pack volumes.
CCS to maintain its superior competitive positioning…
CCS has captured 56% of the frozen confectionery and has maintained a sizeable lead over its next
largest competitors, Cargills whose market share is 30%. We expect them to preserve this dominant
position through the preservation of Elephant House’s strong brand value, and the reputation that it
has established. CCS’s wide and expanding portfolio also caters to customer’s varying taste
preferences and capitalizes on consumer sophistication which results in consumers seeking more
innovative flavors.
Investment in new factory to expand medium term margins…
CCS’s new ice cream factory will expand production capacity of the impulse range by approximately
50% and be equipped with more technologically advanced machinery. It is expected to run in early
2019. The efficiency gains resulting from this new factory will translate into lower costs of
production per unit and allow for higher margins. Furthermore, this capacity expansion will facilitate
CCS to shift its packaging mix towards the high-margined impulse range segment.
We hold a bullish outlook for CCS’s modern retail segment
Current low modern retail penetration to facilitate long run growth potential…
The country’s modern penetration rate of 15% underscores great growth potential for the modern
retail industry, which will be aided by favorable industry trends. Such trends include rising household
disposable incomes, increasing consumer sophistication and the increase in cities that demonstrate
urban characteristics.
Rapid expansion of conforming store formats to improve competitive positioning…
Keells Super has found success in its new, conforming store format which has considerably improved
the customer’s shopping experience. This has been achieved by expanding the square footage of
outlets which has allowed them to hold more SKUs and offer spacious aisles. The conforming store
format also offers more parking slots which is an important feature as household motor vehicle
penetration is on the rise. This conforming store footprint is expected to expand rapidly over the
coming financial years, which will enhance the presence of CCS’s Keells Super chain against its widely
present competitor, Cargills. However, CCS’s successful store format is under threat as Cargills have
begun rolling similar format outlets.
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Investment in new, more efficient warehouse to improve margins…
CCS’s investment in a new, fully-centralized warehouse will bring in benefits to the retail segment
through an improvement in efficiency which will translate into cost savings, as currently
approximately 55% of the deliveries made to outlets are centralized. Such benefits include logistical
efficiencies, as consignments to outlets will be delivered within a specified time period of the day.
Catalysts and possible downside to valuation
Further increases in excise duty on carbonated soft drinks a possibility…
Currently the excise duty on CSDs is LKR 12 per liter, and its last revision occurred in 2012 which was
a 50% increase from LKR 8 per liter, making a possible upward revision likely in the near future. In
the last quarter of the calendar year 2016, the excise duty on soda was increased from LKR 12 to LKR
25 which further strengthens our case for a possible increase in excise duty on other CSDs. The
implication of this is a further deceleration in CSD market volumes.
Recent share price surge a result of foreign interest…
Since 2 January 2017, the price per share of CCS rose from LKR 740 to its current price of LKR 930,
resulting in a YTD gain of 25.7%. The free float of CCS’s shares is 10.57% which is low and thus has a
negative impact on the shares liquidity. The negative implications of a low free float are relatively
larger swings in share price. The most recent price action has been driven up by a liquidity squeeze
as evidenced by the daily market volumes of 14,374 since 4 April 2017. The upward price movement
was also the result of a general market rally with increased foreign inflows into the market heavy
weights of John Keells Holdings PLC and Commercial Bank of Ceylon PLC rather than events specific
to CCS.
Risks to our recommendation
▪ Further foreign inflows into CCS’s stock, as foreign funds are attracted to stocks in the
consumer goods business or high liquidity stocks. Given that the number of listed stocks on
the country’s stock exchange which are engaged in consumer goods and retail is limited,
funds may have no choice but to drive up the price of CCS’s already expensive stock.
▪ Economic growth in the next 3 to 4 years will be faster than 4.5-5% which will boost incomes
and consumer sentiment. The probability of this risk materializing, however, is very low.
▪ The impact of the recent drought on agricultural employee’s incomes will not prolong
throughout 2017 as we have expected.
▪ Inflation will trend downwards, reducing the erosion of household purchasing power and
thus boosting their expenditure and consumption.
▪ A downward trend in key input prices such as sugar and milk.
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2. Business Description
Ceylon Cold Stores PLC (CCS), is a group that comprises of Ceylon Cold Stores Company and its
wholly-owned subsidiary Jay Kay Marketing Services (Pvt) Ltd. (JMSL). The Company engages in the
manufacturing and distribution of non-alcoholic refreshment beverages and frozen confectionery,
under the brand “Elephant House”. The subsidiary operates a chain of supermarkets in the modern
retail industry under the brand “Keells Super”.
Since its inception in 1866, Ceylon Cold Stores PLC (formerly known as Colombo Ice Company) had
always been engaged in the business of manufacturing. It imported the country’s first ice-making
machine, making ice business the starting point of its 150-year history. In January 1970, Ceylon Cold
Stores PLC was listed on the Colombo Stock Exchange (CSE). In 1991, Ceylon Cold Stores came under
John Keells Holdings (JKH), Sri Lanka’s largest conglomerate, with the acquisition of Whittalls Group.
2.1. Manufacturing
Non-Alcoholic Refreshment Beverages
At the end of FY 20161, CCS’s beverage portfolio consisted of 18 flavors. This includes the popular
products of Cream Soda, Necto, and Ginger Beer. CCS is currently the market leader of the
carbonated soft drinks (CSD) industry, with a 40% share of the market. Their products also are made
available overseas in countries such as United Kingdom, United States, Switzerland, Italy, Canada,
Australia and more. Its CSDs are packaged in glass bottles, PET bottles and cans. Elephant House soft
drinks reach the households through a footprint of 90,000+ retailers.
More recently, CCS’s beverage portfolio has branched out of its traditional segment, CSD, by making
strategic entrances into the health-conscious consumers niche with the launch of products such as
Twistee (fruit-based green tea), F5 (isotonic sports drink) and Fit-O (fruit juice).
Frozen Confectionery
The frozen confectionary portfolio held a range of 32 flavors by the end of FY 2016, but has
expanded since. CCS is also the market leader of the frozen confectionery market with a market
share of 54%. Its products are distributed island-wide through a network of 30,000+ retailers. The
Elephant House frozen confectionery brand has an overseas presence with market leadership
position in the Maldivian frozen confectionery market. This segment is decomposed into take home
packaging and impulse packaging (available in either cups or sticks).
Elephant House manufactures a line of premium ice-cream under the brand “Elephant House
Imorich”. In the last financial year, CCS’s frozen confectionery segment expanded the flavors within
its premium range and has also launched more convenient packaging for its premium products that
allows for consumption on the go.
2.2. Retail
The retail segment is operated by the Group’s subsidiary under the brand “Keells Super” in the
modern retail industry. It opened six new stores in FY 16 and achieved its 50th store opening. Since
then it has expanded to reach an outlet footprint of 61 by the end of the third quarter of FY 17. The
outlet types can be decomposed into original store format and conforming store formats, where the
conforming stores are larger in size and equipped with ample parking space. It’s strategic direction
1
Financial year ending 31st March 2016.
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moving forward is to focus on rapidly expanding its conforming store format while converting or
closing down selected original store formats based on their current performance.
Keells Super is primarily located within Colombo and its suburbs, with a nascent presence in other
major cities such as Kandy, Gampaha and Galle.
Waterfront Properties (Pvt) Ltd

CCS has a 29.04% holding in Waterfront Properties (Pvt) Ltd and is treated as an associate company
in the financial statements. The Waterfront Properties is currently developing “Cinnamon Life”, an
integrated mixed use development facility, that will consist of a five-star hotel, retail and
entertainment complex, conference venues, an office tower and two luxury residential towers. It is
expected to be completed within the year 2020.
CCS’s holding in its associate came down to 29.04% from 38.97% due to the direct investment in the
stated capital of JKH. This capital infusion will continue and CCS’s holdings of its associate will dilute
to 14%. The company has no plans to sell any of its shares which currently amounts to LKR 5,393
billion. We have assumed that it will continue to be held at fair value.
2.3. Financial Snapshot of Ceylon Cold Stores Group

(in LKR millions) FY 12 FY 13 FY 14 FY 15 FY 16 9M FY16 9M FY17
Revenue 20,190 22,251 23,623 27,699 34,070 24,888 32,439
Manufacturing 8,275 8,530 8,860 9,768 12,190 8,639 10,582
Retail 11,915 13,721 14,763 17,931 21,879 16,249 21,857
YoY Growth 10% 6% 17% 23% 30%
Gross Profit 3,044 2,925 2,816 3,670 5,496 4,142 5,437

Gross Profit Margin 15.1% 13.1% 11.9% 13.2% 16.1% 16.6% 16.7%
Profit for the year 2,242 2,200 1,541 1,525 2,874 1,908 2,729
Table 1 Source: Company Annual Reports, JBS Research
The revenue reported by the group for the FY 2016 stood at LKR 34 bn., a 23% growth over the
previous financial year.
Operating environment tailwinds boosted FY 2016 revenue where its YoY growth of 23% was
significantly above the 4 year CAGR of 14%. The interest rate environment was low, wages in the
public sector were increased which placed upward pressure on private sector wages, an electoral
pledge reduced fuel and gas prices due to falling global prices, a fuel surcharge on electricity was
removed and the deemed VAT was removed in early 2016. These factors improved consumer
sentiment and was passed onto increased consumption activity of fast-moving consumer goods
(FMCG), lifting both the manufacturing and retail segments’ performances. Despite the Central Bank
taking a tightening stance on monetary policy in February 2016, the performance of the group in the
first nine months of FY 2017 recorded a growth over the first nine months of FY 2016.
The 23% growth in revenue during FY 2016, was translated into a 50% and 88% growth in gross
profit and profit for the year respectively. This is an indication of considerable operating leverage
faced by CCS. Furthermore, the growth in profit for the year was followed by a series of negative
growth in the preceding years.
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2.4. Segmental Performance
Figure 1 Source: Company Annual Reports, JBS Research
Manufacturing
FY 12 FY 13 FY 14 FY 15 FY 16 9M FY16 9M FY17
Revenue 8,275 8,530 8,860 9,768 12,190 8,639 10,582
YoY Growth 3.1% 3.9% 10.2% 24.8% 22.5%
Net Profit Margin 26.9% 24.2% 14.2% 12.0% 18.7% 15.2% 20.4%
The manufacturing segment is the group’s largest contributor to profit, contributing 79.2% by 3Q FY
2017. This segment, saw revenue jump up 25% in FY 16 over FY 15, driven mainly by volume growth,
which reached double-digit figures, aided by a favorable operating environment. This sturdy growth
continued into the first half of FY 17 amidst rising interest rates.
Profit margins have also been expanding over the past few years. The jump in gross margins to 38%
in FY 16 was attributable to positive operating leverage effects, decline in sugar prices, a major
component of raw material costs. The downward revisions of fuel and gas prices had also ensured
costs were kept low.
Retail
FY 12 FY 13 FY 14 FY 15 FY 16 9M FY16 9M FY17
Revenue 11,915 13,721 14,763 17,931 21,879 16,249 21,857
YoY Growth 15.2% 7.6% 21.5% 22.0% 34.5%
Net Profit Margin 0.1% -1.1% 1.9% 1.9% 2.7% 3.7% 2.6%
The retail segment is the group’s largest contributor to revenue, contributing 67% by 3Q FY 2017.
The segment recorded a revenue jump of 22%in FY 2016 driven by the sales from new outlets as well
as increased sales from its current outlets which contributed 13% to turnover growth. Once again,
increased consumer spending power from improved operating environment was a vital factor in
enhanced performance. Similar to the sales of CCS’s manufacturing segment, retail revenue
continued to post impressive performance figures moving into FY 2017 despite the tightened
monetary and fiscal policy. Retail sales have grown by 35% in the first nine months of FY 2017
relative to the same period in FY 2016.
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Margins in the retail segment, though relatively lower due to the inherent nature of the business,
have shown signs of an upward trend as existing stores were able to generate more sales in high
margin products such as fresh meats and produce.
2.5. Governance and Management

CCS is a subsidiary of John Keells Holdings PLC (JKH), who owns an 81.3% share with the inclusion of
Whittal Boustead’s holding of CCS, another subsidiary of JKH. Despite JKH’s large holding, CCS is run
independently by its own board of directors as a consequence of being listed on the CSE.
The board of Ceylon Cold Stores PLC comprised of 7 directors as at the end of FY 2016. Since then
Mr. Prasanna Jayawardene has resigned from the board on 16th June 2016 and two new non-
executive directors were appointed on 17th June 2016, bringing the total to 8. Mr. Susantha
Ratnayake is the Chairman of the board and is also Chairman and CEO of John Keells Holdings PLC,
the parent company of Ceylon Cold Stores PLC. Five of the 8 members have over 12 years of
experience on the board.
As per SEC’s corporate governance code, the board is in conformance with the recommendation that
at least one-third of the directors are independent.
Board meetings are held at least once every quarter. Annual General Meetings (AGM) are held
annually at which one third of the Directors, retire by rotation and are eligible for re-election.
The board sub committees include the Human Resources and Compensation Committee of JKH,
Related Party Transaction Review Committee of JKH, Nominations Committee of JKH and Audit
Committee of CCS.
Date of Present on
Name Position
appointment JKH Board?
Mr. Susantha Ratnayake Non-Independent - Non-Executive Director October 1, 2002 YES
Mr. Ajit Gunawardene Non-Independent - Non-Executive Director October 1, 2002 YES
Mr. Ronnie Peiris Non-Independent - Non-Executive Director June 1, 2003 YES
Mr. Jitendra Gunaratne Non-Independent Executive Director 2004/2005 NO
Mr. Rasakantha Rasiah Independent - Non-Executive Director July 1, 2005 NO
Mr. Muhammed Hamza Independent - Non-Executive Director May 15, 2015 NO
Ms. Sharmini Ratwatte Independent – Non-Executive Director June 17, 2016 NO
Dr. Romola Wilson Independent – Non-Executive Director June 17, 2016 NO
Table 4 Source: Company Annual reports
The management team includes members who also have active management roles in other
companies held under CCS’s parent company, JKH. Management members at the president level sit
on JKH’s Group Executive Committee and members at the executive vice president level sit on JKH’s
Group Operating Committee. Currently, the president of CCS Company is Jitendra Gunaratne, and
the president of JMSL is Gihan Cooray who took over for Krishan Balendra as the latter took over the
leisure group of JKH.
2.6. Ceylon Cold Stores Historical Timeline

Ceylon Cold Stores began its long history as an ice-making business with just 22 employees. Some of
the major milestones attained within 150 years are listed below.
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Colombo Ice Company was founded, which imported and used the country’s first ice making
1886
machine.
1893 Introduced aerated water with the distinctive “Elephant” trademark on the bottles.
Tom Walker, owner of a competitive company bought Colombo Ice Company and merged the two
1894
companies under the new name New Colombo Ice Company.
1921 Introduction of crown corks to the aerated water business.
1925 Moved on to build cold storage for frozen products of all kinds.
1932 Ceylon Creameries was acquired to produce and distribute reconstituted fresh milk and ice cream
1934 Purchased Ceylon Ice and Cold Storage Company. A café was established at Fountain House.
Carbonic acid gas plant was installed to make carbon dioxide and dry ice. Ice cream in bulk form was
1935
produced in four gallon buckets.
1941 Changed the name to Ceylon Cold Stores Limited
1950 New soft drinks factory was opened.
1965 Re-introduce the Ice Palam.
1970 The company was quoted in the Colombo Stock Exchange in January
The company came under the umbrella of John Keells Holdings Limited with the acquisition of the
1991
Whittalls Group.
The Company enhanced its production capacity considerably by installing a modern bottling plant at
1998
the Kaduwela factory.
2010 The brand logo was changed on 25th July 2010. Introduced KIK Cola in December 2010.
2011 Introduced new bottle shape
2014 Launched Nexus Mobile, Sri Lanka’s first and only independent card-less lifestyle loyalty programme.
Table 5 Source: Company Annual Reports
2.7. Top Twenty Shareholders as at 31 December 2016

Name of Shareholder No. of shares %
John Keells Holdings PLC 67,107,128 70.61%
Whittal Boustead (Pvt) Ltd 10,165,392 10.70%
Standard Chartered Bank Mauritius S/A Chambers Street Global Fund, LP 2,862,642 3.01%
GF Capital Global Limited 2,074,241 2.18%
A N Sethna 789,696 0.83%
HSBC International Nominees Ltd-Ssbt-Deutsche Bank AG Singapore A/C 01 303,956 0.32%
Life Insurance Corporation of India 272,912 0.29%
Sisira Investors Limited 259,132 0.27%
HSBC Intl’ Nominees Ltd-Jpmcb-T.Rowe Price Institutional Frontier Markets Equity
229,765 0.24%
Fund
People's Leasing & Finance PLC/ C. D. Kohombanwickramage 225,408 0.24%
Northern Trust Company S/A Coupland Cardiff Funds PLC-CC Asian Evolution Fund 220,861 0.23%
Deutsche Bank AG Singapore Branch 175,000 0.18%
Seylan Bank PLC/ Channa Nalin Rajahmoney 174,839 0.18%
Est of Late M. Radhakrishnan (Deceased) 169,256 0.18%
Mrs J.R. Printer (Deceased), Jini Rustomji 167,936 0.18%
Merrill J Fernando & Sons (Pvt) Limited 150,848 0.16%
M V Theagarajah, Manickam Vallipuram 133,548 0.14%
Deutsche Bank AG as Trustee for JB Vantage Value Equity Fund 128,682 0.14%
Mrs. H.M. Mount (Deceased) 125,360 0.13%
Mrs. E.C. Rodrigo 121,872 0.13%
Table 6 Source: Company Quarterly Statements
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Segmental Analysis
We have analyzed the three key business segments of CCS by examining the industry’s demand
drivers, the competitive positioning of the particular business segment relative to its peers, and the
productivity drivers of the business segment.
3. Non-Alcoholic Refreshment Beverages

3.1. Demand drivers indicate a challenging outlook for the CSD industry
We have defined the NARB industry to include the following sub-segments; carbonated soft drinks
(CSDs), fruit juices, ready to drink (RTD) teas & coffees, RTD dairy products, energy & sports drinks
and bottled water.
3.1.1. Improvement in affordability of NARBs
Household incomes have experienced steady growth

Monthly Household Income (in LKR)
100,000 9.7% 8 Year CAGR

2016
80,000
60,000
8.6%
40,000 9.4%
2008
7.5%
8.0%
20,000
-
Percentage of A B C D E
total households 8% 21% 31% 23% 16%
Figure 2 Source: Lanka Market Research Bureau, JBS Research
Target market for NARBs has expanded due to household income growth in SEC C & D
Households in SEC C & D face a more income elastic demand for NARBS, therefore rises in income
for SEC C & D will see larger increases in demand for NARBs as opposed to rises in income for SEC A
& B households.
NARBS are an out of reach discretionary item for households in SEC C & D2, who fall on the lower
end of the household income spectrum. Therefore, persistence is low in these households.
Furthermore, the effect of their increasing income will have a magnified effect on the NARB volumes
in the industry, as they constitute approximately 54% of the households.
In 2016, the size of the CSD market, the main sub-segment of the NARB industry, was 216 million
liters per annum. Sri Lanka’s annual per capita consumption for CSDs was approximately 10 liters
which was an improvement over the 8.5 liters recorded in 2012. The comparable statistic for its
regional peers is 3 liters for India, 16 liters for Pakistan, and 29 liters for Thailand.
2
Lankan Market Research Bureau (LMRB) classifies households into five main divisions, SEC A, SEC B, SEC C,
SEC D, and SEC E based on the chief wage earner’s education level and occupation
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Short-term affordability will be hampered by the drought’s impact on rural incomes and
consumption.
Spending on consumer discretionary items by agricultural sector employees will be adversely
impacted due to drought-hit incomes. At present, many parts of the island are undergoing one of
the worst spells of drought in four decades. Amongst the hard hit are employees in the agricultural
sector who constitute approximately 28.7% of the work force. Farmers have only managed to plant a
third of their 800,000 hectares of paddy fields. We believe that these low incomes will continue to
prolong over the year thus denting short-term volume growth in both the NARB and frozen
confectionery industry.
Relative pricing of NARBs is low

a) NARBs are not a close substitute for hot beverages in Sri Lanka.
The choice between hot beverages (tea and coffee) and NARBs results from a natural craving rather
than price differentials. Sri Lanka is primarily a tea consuming country, where tea is perceived as a
consumer staple and consumed as part of a daily routine. It, therefore, cannot be easily substituted
for by majority of the NARBs. The weather also diminishes this substitutability. A hot and humid day
will drive a strong urge to consume a cold beverage. Consequently, the cross elasticity between
NARBs and hot beverages is low, where changes in prices of tea and coffee have a non-threatening
impact on NARB volumes.
b) CSDs are relatively cheaper than other alternatives within the NARB industry
Retail Price per

NARB Category Product
100ml (in LKR)3
Coca Cola 17.50
EH Ginger Beer 22.00
CSD
EH Necto 20.00
Pepsi Cola 16.00
EH Twistee Apple 28.57
RTD Tea & Coffee Heladiv Ice Tea 32.50
Nescafe Iced Coffee 27.78
KIST Orange Juice 35.00
My Juicee Orange Juice 25.00
Juices & Nectar
EH Fit-O Mango 23.00
MD Mango Nectar 33.00
Daily Vanilla Milk 25.00
RTD Dairy Kotmale Vanilla Milk 23.53
Milo 27.78
My Power Energy 70.00
Wild Elephant 80.00
Sports & Energy Drink
Red Bull 128.00
EH F5 Isotonic 28.57
Table 7 Source: Supermarket websites, JBS Research
CSDs in Sri Lanka have demonstrated the lowest prices amongst the segments, making them an
affordable form of refreshment.
3
Retail prices have been normalized to price equivalent for 100ml
P a g e | 12
c) Price of Sri Lankan NARBs in PPP Dollars is high relative to Asian peers4
Sri Lankan Coca Cola price highest amongst peers

Sri Lanka $1.82
India $1.38
Malaysia $1.38
Thailand $1.31
Pakistan $1.28
Singapore $1.13
Bangladesh $0.95
Price of 500ml Coca Cola PET bottle in 2015 PPP Dollars
Figure 3 Source: Online grocery websites, World Bank data, JBS Research
Relative to South Asian peers, Coca Cola is less affordable to the local population. A comparison of
Coca Cola prices between Sri Lanka and its peers reveals that Sri Lanka commands the highest price
within the group after controlling for differences in cost of livings. This reinforces the view that
NARBs are a discretionary consumer good.
3.1.2. Change in consumer lifestyles will threaten CSD volumes

Grab-and-go lifestyle will increase emphasis on convenience
80%
Proportion of work force working 40+ hours is on the
70%
rise
60%
50%
40%
30%
20%
2011 2012 2013 2014 2015 2016 1H
Figure 4 Source: Sri Lanka Labor Force Survey
Consumers today have more ‘pressed-for-time’ schedules, and thus are placing more value on
convenience, including the packaging of goods.
The work force has progressively gotten busier over time as evidenced by the increasing proportion
working over 40+ hours. Furthermore, they have also begun pursuing more leisure activities as they
seek to improve the quality of life, which becomes affordable with increased incomes.
4
Price of Coca Cola 400ml PET bottle has been normalized to 500ml for Sri Lanka
P a g e | 13
This busier lifestyle has adversely impacted the glass packaging of NARBS, which often entails the
hassle of consumption on the spot or returning bottles at a later date. There is an increasing
emphasis on convenient packaging such as PET bottles and smaller volumes. CCS’s current packaging
mix ratio for glass and PET bottles stands at 40:60.
Emergence of health-conscious consumers who seek healthier diets
Product Energy (kcal) Protein (g) Total Fat (g) Sugar (g)
Coca Cola 39.0 0.0 0.0 11.0
Red Bull 45.0 0.0 0.0 11.0
Elephant House Twistee 35.6 0.1 0.1 8.9
Orange Juice 45.0 0.7 0.2 8.0
Nestle Milo can 62.5 2.1 7.1
Tea with sugar 19.8 0.0 0.0 5.0
Coffee with milk 4.0 0.18 0.08 0.1
Coca Cola Zero 0.3 0.0 0.0 0.0
Table 8 Source: JBS Research
The consumption of CSDs is widely frowned upon due to the unhealthy nature of their high sugar
content. Some of the adverse health impacts from continuous consumption of CSDs include higher
risk of diabetes, obesity, heart disease and cancer.
A trend that is currently more visible in the commercial capital, Colombo, is the emergence of
consumers who have adopted healthier lifestyles as evidenced by the increased activity in gyms and
on public walking paths amongst the white-collar workers who are employed in sedentary jobs. This
trend is a by-product of increased consumer sophistication and education.
This emerging cohort has already placed pressure on Sri Lanka’s NARB industry players towards the
introduction of more healthy products without compromising taste and quality. Players such as CCS
have begun to replace sugar with a less calorific alternative, Stevia.
a) An increase in excise duty is a potential headwind
The demand for CSDs is relatively elastic due to their discretionary as well as unhealthy nature.
Therefore, any increase in excise duty on CSDs will push up their prices and lead to a relatively larger
drop in volumes.
As part of the government’s initiative to improve the health of its citizens, an excise duty has been
imposed on CSDs. At present, the tax rate is at LKR 12.00 per liter for flavored CSDs. The excise duty
on soda was recently increased to LKR 25.00 per liter due to its popularity as a chaser for alcohol. An
exemption from this excise duty is ginger beer due to the use of natural ginger, which brings in
health benefits to the regular consumer.
We believe that an increase in excise duty is likely given that the last such revision was made in 2012
where the tax per liter was raised by 50% from LKR 8.00 to LKR 12.00.
P a g e | 14
Most of the country’s regional peers have not imposed an indirect tax on these sugary beverages.
However relative to the countries that have implemented this tax, Sri Lanka’s tax as a percentage of
retail price is at the lower end.
Sri Lanka's excise duty has potential to increase

India
21%
Thailand
20%
Sri Lanka
9.7%
France
8%
Singapore
0%
Malaysia
0%
Indonesia
0%
0% 5% 10% 15% 20% 25%
Excise duty rate
Figure 5 Source: JBS Research
b) Governmental regulations have been imposed to curb consumption of CSDs

The selling of soft drinks and fast foods was effectively prohibited at school canteens according to a
circular5 passed in 2011 by the Ministry of Education. This prevents a large proportion of CSD’s
target consumers from consumption during school hours.
`In 2016, the Health Ministry of Sri Lanka had launched a color code system through an extra
ordinary gazette6, to aid consumers in making an informed purchase decision. Non-dairy beverages
are now marked red, orange, yellow or green based on their sugar content.
An illustration of the color coding on a 2 liter Coca Cola bottle
Furthermore, the CSD market faces threat from the possible banning of PET bottles under 500ml by
the Central Environment Authority, due to the adverse impacts of plastic bottles on the
environment, which may push the production and consumption of more glass bottles.
5
“Conducting School Canteens & taking foods during school time” Circular No. 2011/03 issued on 18 January
2011
6
Gazette Extraordinary No. 1965/18 issued on 03 May 2016
P a g e | 15
3.1.3. Climate conditions and multitude of festivals create peaks and troughs in NARB
volumes
Boost in volumes of thirst quenchers during hot and dry seasons
Hot climates often result in a thirst that is best quenched by cold refreshment beverages thus
creating a surge in demand for NARB. On the flipside, cold, rainy days hamper NARB volumes, as
people prefer the soothing contrast provided by hot beverages such as tea and coffee.
Sri Lanka’s proximity to the equator has resulted in the country’s tropical climate, which entails
distinct dry seasons and wet seasons. The dry seasons occur during the months of January to April
and are characterized by temperatures hovering in the early thirties paired with high humidity levels.
During these seasons, demand for NARBs surge.
Consequently, the relative prices between hot beverages and cold beverages do not drive purchase
decisions, but rather the consumer’s underlying mood as was mentioned in section a).
Negative correlation between rain and CCS sales

70 4,000
Average Rainy Days 3,500
60
CCS Sales
No. of rainy days
50 3,000
CCS Sales (in LKR millions)

2,500
40
2,000
30
1,500
20 1,000
Correlation = -0.3
10 500
0 -
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1
2013/14 2014/15 2015/16 2016/17
Figure 6 Source: Central Bank of Sri Lanka, Company Annual Reports
Festivals boost demand for NARBs as a form of indulgence

Festivals create cyclical trends in CCS company sales
4,000
3,500
CCS Sales (in LKR '000)
3,000
2,500
2,000
1,500
1,000
500
-
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
2013/14 2014/15 2015/16
Figure 7 Source: Company Annual Reports
Sri Lanka enjoys a plethora of festivals throughout the year. The most widely celebrated holidays are
the Sinhala/Tamil New Year (April), which sees the highest demand for soft drinks and ice cream,
P a g e | 16
Vesak (May) where the concept of dansals 7sees similar spikes in demand, and Christmas
(December).
The strongest performing quarter is the fourth quarter (January to March), which is explained by the
peak in demand during the dry season. The next best performing quarter is the first (April – June),
which enjoys the influx in demand for indulgences due to the New Year, Vesak and Poson.
3.1.4. Shifts in population age structure unfavorable for CSD segment

Prevalence of diabetes increases after age 50
70-79
60-69
11%
50-59 15%
Age
40-49
30-39
20-29
0% 2% 4% 6% 8% 10% 12% 14% 16%

Prevalence of diabetes
Females Males National Average
Figure 8 Source: International Diabetes Federation (IDF) Diabetes Atlas 2015
The age 50 plus cohort is more susceptible to diabetes as demonstrated by their high prevalence.
Consequently, they become more cautious about their consumption of sugary foods and beverages
resulting in a low persistence of CSDs within this cohort.
The population is currently undergoing an ageing process where its median age is rising and the
cohort that is above age 65 is accounting for an increasingly larger proportion of the total
population. The age 50+ cohort is projected to grow at a faster rate than the total population.
On the other hand, the 15-35 age cohort, which represents the target market for CSDs, is projected
to grow slower than the total population. Demand for CSDs will thus see a deceleration.
7
A local tradition performed during major Buddhist festivals, where roadside stalls are set up to serve free
food and drinks to the public. Popular foods given away at dansals include soft drinks, ice cream, and basic
dinner.
P a g e | 17
Age 50+ cohort growing relatively faster, age 15-35

cohort growing relatively slower
3.0%
2.0%
5-year CAGR
1.0%
0.0%
2017 2022 2027 2032 2037
-1.0%
Total Population aged 50+ Population aged 15-35
Figure 9 Source: United Nations Population Fund
3.2. Elephant House has achieved a superior competitive positioning

3.2.1. CCS’s beverage segment is the market leader of the CSD market
The result of Elephant House’s strong pricing power, brand value and variety of CSD flavors has
resulted in EH becoming the market leader of the CSD market, closely followed by the international
player, Coca Cola.
Local CSD market is highly concentrated
Pepsi
21%
Elephant
House
40%
Coca Cola
39%
Figure 10 Source JBS Research
P a g e | 18
3.2.2. Pricing power of CCS’s beverage segment

CCS has been able to change the prices of its beverages in line with input costs
CCS has pricing power in its beverage segment

210
190
VAT was increased to 15% from 11% on
170 2 May. This increase was suspended on
11 July. It was subsequently re- Sugar
Relative Index
150 implemented on 1 Nov.

EH Ginger Beer
130 EH Cream Soda
110 Tax Burden

Electricity
90
70
50
Figure 11 Source: JBS Research, Bloomberg, Sri Lanka Customs
The figure depicts CCS’s ability to pass on input price changes to their customers, which is evidence
of their significant pricing power.
The CSD market is monopolistic in nature, with a limited number of players competing with
differentiated products and brands as well as their distribution network. In this market prices are
sticky, and thus are not cut in the face of declines in input prices or decreases in indirect taxation
such as the VAT suspension witnessed mid-2016. Similarly, prices do not increase immediately in
response to input price or taxation increase due to the discretionary nature of this product resulting
in a relatively elastic demand. In the event of a price increase, such increases would come at LKR
5.00 or LKR 10.00, instead of LKR 1.00 or LKR 2.00 to facilitate ease of giving change. This allows CCS
to increase prices more than is warranted by cost increases. However, such benefits are short-lived
as costs will catch up.
Elephant House commands a higher brand value relative to the international brand, Coca
Cola
LMD Brand Ranking 2016 2015 Change Brand Value (in LKR mn.) Brand Rating
Lion Beer 6 10 +4 21,107 A+
DCSL 14 13 -1 8,366 A
Elephant House 20 22 +2 6,289 AA+
Coca-Cola 23 25 +2 4,848 AA-
Dilmah 33 29 -4 2,755 A
Table 9 Source: LMD, Brand Finance Lanka
EH commands a higher brand value relative to its strongest competitor Coca Cola as per the analysis
conducted by Brands Finance Lanka. EH is ranked 3 spots above Coca Cola and has a brand value
that is 30% greater than Coca Cola’s.
This higher brand value is derived from the fact that EH is a heritage brand and appeals to the local
population.
P a g e | 19
The brand was established in 1893 and has been gaining recognition and popularity ever since.
Today its products are available island wide through a network of 90,000+ retailers. Furthermore,
the brand was developed locally and has embodied the local culture through symbolizing one of the
country’s respected animals; the elephant.
This ranking achievement is commendable given Coca Cola’s strong global presence, being sold in
over 200 countries, and ranking 4th on Forbes “The World’s Most Valuable Brands” ranking.
3.2.3. CCS’s beverage portfolio is more diverse relative to its competitors

CCS has presence in a wider area of the NARB industry segmentation matrix
EH has branched out its portfolio into other segments of the NARB industry. This has entailed in EH
enjoying presence in uncontested segments and capitalizing on the health-conscious trend amongst
urban consumers.
Figure 12 depicts that EH enjoys sole presence in RTD teas and fruit juices, whilst its two main
competitors are heavily reliant on CSD. However, both Coca Cola and PepsiCo have a vast
international portfolio of products that occupy many NARB segments, which could be introduced
into Sri Lanka given its increasing potential.
The management of the beverage segment has communicated its strategy to continue expanding its
portfolio into more natural beverages, thus relying less on CSDs, which currently constitutes 95% of
the CCS beverage segment’s revenue.
A gap in the NARB industry is the bottled water segment, which has a positive outlook but is highly
fragmented, with 77 brands registered under Sri Lanka Standards Institution. We believe that this
would be a viable sub segment for EH to enter. By launching their own bottled water, EH would be
able to push out its product through its existing strong distribution network of 90,000 outlets. They
would also able to benefit from scale of economies in the production process of the PET bottles.
P a g e | 20
P a g e | 21
CCS’s flavor range is more expansive within the CSD segment
Within the CSD segment of the NARB industry, where competition between the three large
players is intense, Elephant House offers a much larger variety of flavors to its customers
This wide flavor variety of EH’s portfolio allows them to capture a larger consumer base as
consumers have varying taste preferences and thus seek different flavors. Some consumers develop
loyalties towards different flavors. The unique selling proposition of Elephant House’s beverage
portfolio is Ginger Beer, which uses natural ginger and brings in a variety of health benefits. They
also capture alcohol consumers through products such as Soda and Tonic.
Coca Cola Elephant House PepsiCo

Cola Coca Cola Original Kik Cola Pepsi
Sprite Lemonade 7 Up
Chaze
Lemoki
Lime Crush Mountain Dew
Fanta Orange Orange Crush Mirinda
Fanta Cream Soda Cream Soda
Fanta Portello Necto
Other CSDs
Orange Barley
Lion Ginger Beer Ginger Beer
Apple Soda Everess Soda
Lion Soda Soda
Tonic
Dry Ginger Ale
Lion Bitter Lemon Bitter Lemon
Twistee Peach
RTD Tea
Twistee Apple
Wild Elephant Energy Drink Gatorade Drink Blue
Sports & Wild Elephant Sugar Free
Energy Drinks F5 Isotonic Orange
F5 Isotonic Lime
Fit O Orange
Juice
Fit O Mango
Bottled Water Aquafina
Table 10 Source: Online grocery websites, JBS Research
P a g e | 22
3.2.4. Wide array of packaging options to cater different needs
Packaging Matrix
Glass PET Can
175ml 200ml 300ml 400ml 325 350 400ml 500ml 750ml 1L 1.25L 1.5L 2L 2.25L 250ml 330ml
Ginger Beer 38 40 110 140 210 120
Apple Soda
Dry Ginger Ale 120
Cream Soda 40 50 100 140 210 80
Lemonade 100 140 210
Necto 40 50 100 140 210 120
Orange Barley
Orange Crush 40 50 100 210
Elephant House
Orange Crush Light

Soda 70 100 150
Tonic 120
Bitter Lemon 110
Kik Cola 40 150
Kik Cola Light
Ginger Beer Lite 110
Lime Crush 40 210
Chaze 210
Lemoki 70
Twistee Apple 100
Twistee Peach 100
Wild Elephant
Coca Cola 40 50 70 100 170 199 150
Coca Cola Light 70
Coca Cola Zero 250
Sprite 40 50 70 100 199 220
Coca Cola
Fanta Orange 40 50 199

Fanta Portello 40 50 199
Fanta Cream Soda 199
Lion Club Soda 50 50 120
Lion Bitter Lemon
Lion Ginger Beer 40 50
Pepsi 60 80 150
Pepsi Diet
PepsiCo
Mirinda 60 80
7 Up 60 80 170
Mountain Dew 60 80 170 150
Aquafina 50 80
Coca
Table 11 Source: Online grocery websites, JBS Research Cola
EH Pepsi Price XX
Both Coca Cola and EH offer a wide array of different packaging sizes in both glass and PET bottles to
achieve different pricing points and consumption occasions.
The cheapest packaging is the smallest glass bottle, which introduces the product at a low entry
price, making the products affordable to even a child on pocket money. More recently, Coca Cola
has discontinued its 500ml PET packaging and introduced a 400ml PET packaging, which is priced at
LKR 70 to lower the pricing point of its products.
The differing quantity offered also allows consumption for different occasions. The smaller PET
bottles and glass bottles are used for immediate consumption. Within the immediate consumption
range, volumes differ to appeal to the varying consumption capacities of the individual consumer.
Larger pack sizes are tailored for sharing at home or at social gatherings.
P a g e | 23
3.3. Productive efficiency is expected to improve

3.3.1. Further economies of scale are expected
Corporate level efficiencies are minimal
Asset efficiency is increasing in the manufacturing

1.4 segment
1.2
1
0.8
0.6
0.4 Fixed Asset turnover
0.2 Total Asset turnover
0
FY 11 FY 12 FY 13 FY 14 FY 15 FY 16
At the corporate level, absorption of overheads can be achieved in areas such as corporate
governance and regulations, remuneration of senior management, building of brand using above-
the-line techniques and other administrative costs.
At the executive director level for CCS, there is a significant variability element in remuneration that
is linked to the peer adjusted consolidated group bottom line and expected returns to shareholders’
funds. The variable component limits the scope for absorbing the remuneration with scale
expansion. NEDs, on the other hand, have limited variable components. Other governance-related
overhead costs that can be absorbed include the expenses of running board and shareholder
meetings.
The costs incurred in above-the-line advertising campaigns to build the ‘Elephant House’ brand will
be spread over larger volumes as production of both beverages and frozen confectionery expand.
However, the CCS management also increases the intensity of advertising in periods of volume
growth, thus reversing some of the scale efficiencies achieved.
The senior management, who is involved in the running of day-to-day operations, has more variable
remuneration in order to align incentives. Consequently, these performance-related pays and other
variable components will rise as performance improves.
More potential to gain from plant level efficiencies

a) Investment in new bottling plant will expand scale of operations
An investment of LKR 2.5 billion has been proposed to set up a new bottling plant for PET bottles, on
the back of nearing full-capacity at the existing plant. The new facility will be located in the same
premises as the main facility and will more than double the bottling capacity for PET bottles.
The bottling line, in addition to increasing production capacity, will have the following benefits;
higher speed, more automation and operational flexibility
The new factory is to be equipped with imported state-of-the-art machinery that enhances the rate
of bottling, permitting higher output
P a g e | 24
The new machinery will further automate current tasks done manually. Consequently, relatively less
labor is required to run the factory. Other benefits delivered are the increased flexibility, less
downtime and quicker set-up times. Such factors are important for CCS’s beverage segment, which
has a wide variety of flavors and thus requires more switching in the filling process. The increased
flexibility will aid the segment in enduring the large seasonality component in its sales volumes.
Once this new plant is in commission, a dip in asset turnover is to be expected, as the new capacity
will be largely under-utilized in the initial stages and absorption of the new plant’s overheads will be
low.
b) Expanding CCS’s beverage portfolio will increase complexity of production process

The management is currently pursuing the strategy of expanding the portfolio to include more
natural beverages, thus reducing reliance on CSDs. As variety of products increases, the production
process will increase in complexity. More set-up time for the machinery will be required to switch
between bottling of different beverages.
3.3.2. Improved work environment will foster higher labor productivity

Initiatives were taken to improve the skills, satisfaction and motivations of employees. These factors
contribute towards an improvement in productivity. Some of these initiatives include training and
skills development programs, conducive work environment and attractive reward and recognition
programs.
CCS also conducts employee surveys to measure the success of their current initiatives as well as to
identify weaknesses and areas for correction. This improvement in work environment can be
attested for by the reduction in attrition rate amongst new hires from 18% to 9% in FY 2016. A
remuneration policy has been implemented that motivates employees to improve productivity.
The firm maintains cordial relationship with labor unions as 56% of the workers in the manufacturing
segment are represented by unions. As such, there has been no days lost due to industrial actions in
FY 2016.
Upon commissioning of the new bottling plant, output per unit of labor will rise. However, this
increase will be due to the increased capital intensity and more productive machinery in the new
factory rather than an improvement in labor effort, methods or skills. Furthermore, the new capacity
will be under-utilized in the initial stages, consequently inputs including labor will be under-utilized.
3.3.3. Energy costs have been reduced by reduction in resource intensity and switching to
cheaper fuel sources
Initiatives undertaken to reduce energy costs included substituting the furnace oil boiler with the
bio-mass boiler. Furnace oil is priced at LKR 90, which is significantly higher than its cost. In India, it is
approximately LKR 58.00. The switch to this bio-mass resulted in an annual savings of LKR 54 million.
CCS had also taken the step to switch to cheaper suppliers by procuring their entire requirement of
food grade CO2 from India. This initiative resulted in an annual savings of LKR 16 million.
The efforts taken by CCS to improve efficiency have had a material impact as illustrated in Figure 14.
P a g e | 25
3.3.4. Packaging mix shifting towards PET bottles, pack size mix shifting towards larger
bottles
CCS’s packaging mix is shifting away from the more profitable glass bottles, with the ratio of glass to
PET bottles now at 40:60 as opposed to 40:60 two years ago.
Returnable glass bottles are more profitable relative to PET bottles and cans, as glass bottles can be
re-used approximately 10 to 15 times. Thus, subsequent revenues from the glass bottles can be
generated without incurring a corresponding cost of production. Margins given to distributors on
glass bottles are higher as distributors bear the cost of returning the bottles to CCS.
At the end of FY 16, large bottles constituted 50% of CCS’s beverage volumes, an increase from the
40% recorded earlier. Larger bottle volumes (2 liters) generate a lower revenue per liter as opposed
to smaller pack sizes (500 millimeters) and are less profitable.
3.3.5. More targeted advertising has reduced advertising spend

CCS has launched more focused advertising campaigns that targets specific audience and occasions
for its various products within the beverage portfolio, as opposed to a generic “catch-all” advertising
campaign. A notable example is the advertising campaign “No EGB. No Food”, which persuaded
consumers to consume Elephant House Ginger Beer (EGB) along with the main meals. The
advertising campaign for CCS’s most popular beverage, Cream Soda, associates the fizzy drink with
partying, through the tagline “Cream Soda brings the pop back into your lives!”
CCS’s beverage segment had also switched from above-the-line advertising to below-the line
advertising, which is cheaper and more focused.
P a g e | 26
4. Frozen Confectionery
4.1. Demand drivers provide a favorable outlook for the industry
We have defined the frozen confectionery market to include the main sub segments of ice creams,
popsicles, frozen yogurt, frozen custard, sherbet and sorbet.
4.1.1. Increase in affordability of frozen confectionery

Growth in household incomes for SEC C & D will widen target market for frozen
confectionery
Persistence of frozen confectionery is low amongst households that fall under the SEC C & D
classification, due to majority of the income still being spent on consumer staples. As incomes of
these households grow (Figure 2), the affordability of consumer discretionary goods such as frozen
confectionery start to improve. As is the case in the NARB industry, the expected improvement in
the frozen confectionery industry is magnified, as SEC C & D constitute 51% of the household
population.
Households in SEC A classification offer opportunities for premiumization in the industry. Affluent
customers will seek premium frozen confectionery, which is based on more natural or high-quality
ingredients, and carries a higher margin.
In 2016, the size of the frozen confectionery market was 40 million liters per annum, which
amounted to a per capita consumption of approximately 2.0 liters. This was an improvement from
the 1.7 liters recorded in 2012. The comparable statistic for its regional peers was 3.0 liters for
China, 0.4 liters for India and 1.9 liters for Malaysia.
Short-term affordability will be hampered by the drought’s impact on rural incomes and
consumption.
Refer to Section 3.1.1 under Non-Alcoholic Refreshment Beverages
4.1.2. Distinctiveness of frozen confectionery reduces its substitutability

Frozen confectionery offers unique properties that is difficult to be matched by other
desserts.
Frozen confectionery is consumed at much colder temperatures relative to other desserts.

Consequently, it caters to a specific consumer desire that cannot be satisfied by other desserts. It is a
form of indulgence that is also able to provide a refreshing contrast during hot weathers. This hard
to match feature of frozen confectionery reduces its substitutability and lowers its cross elasticity of
demand with other desserts.
P a g e | 27
Impulse segment drives on-the-go consumption

The impulse range differentiates itself from the take-home pack by allowing the convenience of
immediate consumption to satisfy a consumer craving. It is made available on sticks, in cones and in
cups and are either dairy-based or water-based novelties. Majority of the other segments in the
dessert industry do not offer such convenience, thus strengthening frozen confectionery’s relative
position.
The local frozen confectionery industry, however, is currently dominated by the take-home packs.
The volume ratio between take-home packs and the impulse range is 70:30 whereas the comparable
statistic for United States and Malaysia is 64:36 and 30:70.
Frozen desserts are versatile

Frozen desserts enjoy versatility, with an extensive range of flavor possibilities. They can further be
combined with other desserts to enhance the consumer’s consumption experience. Consequently,
frozen confectionery can be viewed as a complement for other desserts.
Until more recently, the local ice cream industry has been limited to the classic flavors, but has
begun to see advancements in the ‘flavor universe’, initiated by the larger industry players. Table 12
depicts a selected portion of the flavor portfolios for two, large, global ice cream players and the two
largest local ice cream players. This demonstrates the large potential for local players to innovate
which will be aided by an increase in consumer sophistication.
P a g e | 28
Elephant House Cargills Ben & Jerrys Haagen Dasz

French Vanilla Fruit N' Nut Salted Caramel Almond Belgian Chocolate
Choc Choc Chip Fresh Mango Banana Split Butter Pecan
Rocky Road Faluda Cheesecake Brownie Cherry Vanilla
Very Berry Butterscotch with Nougat Chocolate Fudge Brownie Chocolate Chip Cookie dough
Coffee Vanilla Ice Cream with Jujubes Cookies and Cream Cheesecake Green Tea
Cookie Cream Malt Ice cream with Chocolate Flakes Mint Chocolate Cookie Peppermint Bark
Fruit N' Nut Fresh Mix Berry Peanut Butter Fudge Toasted Coconut Caramel
Hakuru Mix Christmas Magic Pistachio Pistachio Rum Raisin
Karutha Kolumban (Mango) Salted Caramel with Pecan Pumpkin Cheesecake White Chocolate Raspberry Truffle
Faluda Chocolate Obsession Red Velvet Cake Sweet Cream Coffee Caramel
Pani Kadju Bourbon Pecan Pie Pineapple Coconut
Choc & Rum Cherry Garcia Pralines and Cream
Confetti Cake Rocky Road
Milk and Cookies Espresso Chocolate Cookie Crumble
Coffee Toffee Bar Crunch Chocolate Peanut Butter
Cinnamon Buns Dulce de Leche
Strawberry Cheesecake Vanilla Swiss Almond
Coconuts for Caramel Core Brownies a la Mode
Vanilla Caramel Fudge Peanut Butter Salted Fudge
S'mores Vanilla tangerine and shortbread
Table 12 Source: Company websites, JBS Research
4.1.3. Change in consumer lifestyles

Increase in penetration of motor vehicles and refrigerators will increase potential for take-
home ice cream packs.
Consumption of take-home packs is predicated on the availability of a refrigerator, a mobility vehicle
and proximity from place of purchase to place of refrigeration. As ice cream melts and refreezes, it
crystallizes, thus severely compromising the texture and diminishing the consumption experience.
Refrigerator penetration is low (52.9%), even in the urban areas (62.3%). Consequently, the ability to
purchase take-home ice cream packs by households who do not own a refrigerator is limited. This
poor statistic, however, underscores a significant potential for improvement, which will translate
into potential increases for take-home pack volumes.
Affordability of refrigerators is improving

50,000
Monthly household income (in LKR)
40,000
2015
30,000 2014
20,000
10,000
0
All Island Urban Rural
Monthly outlay on refridgerator
Figure 15 Source: Lanka Market Research Bureau
The cost of purchasing an entry level refrigerator with a freezer compartment is approximately LKR
60,000. Rising household incomes and the availability of financing options such as hire purchase will
aid the improvement in refrigerator penetration. Affordable financing is obtained mainly through
P a g e | 29
store credit via hire purchase schemes. They are typically structured with a down payment of LKR
14,333 and equal installments of LKR 1,911 over 15 months. The monthly electricity cost will roughly
amount to LKR 215.
Population of Motor Vehicles on the rise

6,000,000
Population of motor vehicles
5,000,000
4,000,000
3,000,000
2,000,000
1,000,000
-
2011 2012 2013 2014 2015 2016
2-wheelers 3-wheelers Motor cars
Figure 16 Source: Department of Motor Traffic, JBS Research
The number of vehicles on the road has rapidly expanded with an influx of first-time buyers into the
market. This expansion was largely comprised of 2-wheelers followed by 3-wheelers and small motor
cars (less than 1000cc engines). This rising population of motor vehicles has been aided by attractive
financing options. Of the motor cars that were registered in 2016, an average of 64.2% were
purchased using leases and mortgages, and the comparable statistic for motor tricycles and motor
bikes are 85.9% and 63.5%.
Increasing health consciousness may inhibit growth in demand.

Vanilla Ice Chocolate Cake with
Nutrition Facts per serving Tropical Fruit Salad8
Cream frosting
Calories 137 221 235
Percentage of calories from fat 47% 0.9% 39%
Saturated Fat (g) 4 0 3
Cholesterol (mg) 29 0 27
Sugars (g) 14 - -
Table 13 Source: SelfNutritionData, JBS Research
The urban population is beginning to take a growing interest in their health and thus is actively
pursuing healthy diets.
Many desserts are unhealthy due to their sugary content, with ice creams often considered
relatively unhealthy due to the inclusion of sugar and heavy cream. Consequently, this new trend
will see ice cream manufacturers being pushed to amend their products to meet healthier standards.
In developed countries, where the health-conscious consumer segment is more prominent, the
frozen confectionery industry has already begun to see frozen yogurt gaining traction at the expense
of ice-creams
8
Tropical fruit salad includes sugar syrup. Locals generally consume fruit salad without the sugar syrup.
P a g e | 30
Furthermore, as was observed in Figure 9, the population above age 50 is growing at rates faster
than the national population. As they are more susceptible to diabetes, their consumption of sugary
foods such as ice-cream will begin to decline
4.1.4. Climate conditions and multitude of festivals create peaks and troughs in frozen
confectionery volumes
Boost in volumes of frozen confectionery during hot and dry seasons
The unique property that frozen confectionery holds over other desserts is the colder temperatures
at which it is consumed. This results in frozen confectionery being a highly sought after treat during
the warm months that is common in tropical climates. In such instances the impulse range is best
suited in allowing consumers to ‘beat the heat’ through immediate consumption. On the other hand,
the cool rainy days adversely impact frozen confectionery sales as consumers seek warmer foods
and drinks to for comfort.
The negative correlation between the number of rainy days in a month and the sales of CCS (which
includes both soft drinks and ice creams) is illustrated in Figure 6.
Festivals boost demand for frozen confectionery as a form of indulgence

Similar to NARBs analyzed on page 16, frozen confectionery sees spurts in volumes during festivals
such as Sinhala/ Tamil New Year (in April), Vesak (in May) and Christmas (in December). However,
the festivity booms in frozen confectionery is less pronounced as opposed to the NARBs segment.
4.2. Elephant House has a superior competitive position

4.2.1. CCS’s ice cream segment is the market leader of the frozen confectionery market
Elephant House is the market leader
Others
10% 8%
Highland
52%
Cargills + Kotmale
Elephant House
30%
The frozen confectionery market is dominated by three large players. In 2016, the size of this market
was estimated at 40 million liters per annum of which 52% was captured by CCS’s ice cream
segment.
However, within the impulse range segment of the frozen confectionery market, Cargills Magic is the
market leader with a 60% share of the market, whilst CCS holds the remaining 40%.
P a g e | 31
4.2.2. Pricing power of CCS’s frozen confectionery segment

CCS’s pricing power is lower in frozen confectionery relative to NARBs
CCS's pricing power is low in frozen confectionery segment

150
130
Relative Index
110 Milk Powder

Sugar
90 EH Vanilla
70 Electricity
Tax Burden
50
30
Figure 18 Source: JBS Research, Bloomberg, Sri Lanka Customs
CCS’ pricing power in frozen confectionery is relatively poor as illustrated by the inability to pass on
changes in input prices and taxation changes.
Similar to the NARB industry, market prices are sticky, and thus are not cut in the face of declines in
input prices or decreases in indirect taxation such as the VAT suspension witnessed mid-2016.
Furthermore, prices do not increase immediately in response to input price or taxation increase due
to the discretionary nature of this product resulting in a relatively elastic demand. In the event of a
price increase, such increases would come at LKR 5.00 or LKR 10.00 in the impulse segment, instead
of LKR 1.00 or LKR 2.00 to facilitate ease of giving change. This allows CCS to increase prices more
than is warranted by cost increases. However, such benefits are short-lived as costs will catch up.
Elephant House commands a price premium in the basic flavors
Elephant House demonstrates price leadership

Mixed Berries
(Premium) 1L
Vanilla 2L
Highland
Strawberry 2L Cargills Magic
Elephant House
Chocolate 2L
Fruit N Nut 2L
200 300 400 500 600 700 800

Price (in LKR)
Figure 19 Source: Online grocery websites, JBS Research
P a g e | 32
Amongst the basic flavors of vanilla, chocolate, strawberry and fruit ‘N’ nut, CCS’s frozen
confectionery segment prices its products above those of its competitors. CCS also commands a
price premium in the vanilla flavor despite using skim milk powder. It’s next biggest competitor
Cargills Magic uses fresh milk instead, which is costlier but delivers a more superior taste.
The pricing between Cargills Magic and EH cannot be directly compared for the strawberry flavor, as
Cargills incorporates fresh strawberries and thus incurs a much higher cost of production.
4.2.3. The frozen confectionery market is a pseudo duopoly

Major players occupy the same segments within the frozen confectionery market
The top two major players in the frozen confectionery market, share many of the segments within
the market as is depicted in Figure 20
Furthermore, there are many segments that have been untapped by local players, which holds great
potential in the medium term with a growing population of sophisticated and health-conscious
consumers.
With the country’s demographic and economic trends presenting more favorable industry conditions
in the long run, the incumbent players face a potential threat from foreign players. Unilever’s ice
cream previously had its presence in the local industry through its brand “Walls”, but discontinued
operations in 2001, selling off its factory to Cargills. This indicates potential for Unilever to make a
re-entry. Furthermore, Nestle is currently operating in Sri Lanka, which creates an avenue for Nestle
to bring in their global brands into the country such as Movenpick, Dreyers and Nestle Xtreme which
are currently present in India.
P a g e | 33
Frozen Confectionery Industry Segmentation Matrix
Buyer Distribution
Teens & Sophis tica Own
Low Medium High Senior Healthy Major General Superma
Toddlers Young ted All-island Overseas HoReCa Brand
Income Income Income Citizens Consumer Cons umer Cities Trade rkets
Adults Outlet
Ice-

Cream
Premium
Ice-
Cream
Sugar-
free Ice
cream
Popsicles
P a g e | 34
Ice-
Cream
novelties
Product
Frozen
Yogurt
Frozen
Custard
Shebert
Sorbet
Elephant Infeasible
Cargills Highland
Key House segment
Both Elephant House and Cargills Magic has an extensive flavor range
Elephant House Cargills Magic

Take Home Impulse Take Home Impulse3
Vanilla Vanilla Orange Twist Vanilla Cargills Magic Orange Popsicle
Chocolate Vanilla Mango Twist Chocolate Strawberry popsicle
Strawberry Double Delight Vanilla & Mango Fresh Strawberry Melon Stick
Karutha Kolumban Double Delight Vanilla & Fruit N Nut Fresh Mango Cargills Magic Faluda stick
Fruit N Nut Jelly Ice Fruit N Nut Cargills Magic Fruit N Nut stick
Vanilla Chocolate Twist Jumbo Jolly Necto Vanilla Double Cargills Magic Vanilla Cone
Double Delight Vanilla &
Jumbo Jolly Orange Vanilla Chocolate Mix Cargills Magic Heavenly Crunch
Chocolate
Hakuru Mix Jumbo Jolly Pineapple Vanilla ice cream with jujubes Cargills Magic Chocolate Cone
Faluda Jumbo Jolly Lime Malt ice cream with chocolate flakes Magic Chocolate Stick
Vanilla Lite Fruitee Blast Butterscotch with Nougat Cargills Magic Traffic Lights
Choco Lite Fruitee Blast Lemon and Mango Avurudu Magic (Coconut with Jaggery) Fantastik
Kiri Pani 2Bar Faluda & Vanilla Vanilla Slim Cargills Magic Divul
Coconut (Cup) 2Bar Vanilla & Orange Cargills Magic Kithul (Cup)
ImorichRocky Road WonderBar Vanilla Mango Ribbon
Imorich French Vanilla WonderBar Chocolate Chocolate Ribbon
Imorich Choc Choc Chips WonderBar Strawberry Strawberry Ribbon
Imorich Very Berry WonderCone Vanilla Heavenly Almond Nougat
Imorich Coffee Grand Heavenly Chocolate Brownie
Imorich Cookie Cream WonderCone Chocolate Heavenly Chocolate Obsession
Imorich Chocolate and Rum WonderBite Heavenly Fresh Mixed Berries
Imorich Strawberry Seduction WonderBite Chocolate Heavenly Salted Caramel with pecans
Imorich Green Tea Fruitee Sword Heavenly Blueberries
Heavenly Butterscotch with Nougat
Heavenly Christmas Delight Ice Cream
Heavenly Mocha Choc Chip
Heavenly Richy Rich
Table 14 Source: Online grocery websites, JBS Research
Despite vanilla being a popular and timeless flavor, the increasing sophistication of urban consumers
has placed pressure on frozen confectionery players to bring new and innovative flavors into the
market. Both Elephant House and Cargills Magic have expanded their flavor portfolio, releasing new
flavors every year, including limited edition flavors during festive seasons. Both players have also
launched premium ranges.
4.3. Productive efficiency gains to be achieved in the long term

4.3.1. Further economies of scale are expected
Corporate level efficiencies are minimal going forward
Refer to Section 3.3.1 in Non-Alcoholic Refreshment Beverages Productive Efficiency
P a g e | 35
Investment in new ice-cream factory will allow further plant level efficiencies
CCS has also announced plans to invest LKR 3.2 billion to expand the production capacity of its
impulse range by early 2019. This investment decision was the result of reaching near-full capacity in
the impulse range production line.
Similar to the new bottling plant for the NARB segment, the new factory will import state-of-the-art-
machinery, enabling a reduction in production costs per unit whilst simultaneously improving
product quality. Although the new facility will be set up in Seethawaka, Avissawella which is 25km
away from its current facilities in Ranala, the increase in transportation costs will be offset by the
benefits from the improved technology, such as the higher throughput, less downtime and increased
flexibility. The new factory will also permit the production of Elephant House’s “WonderBite” and
“WonderCone” which is currently being imported.
This new investment to expand the production capacity of the impulse range will aid CCS to shift its
product mix to the high-margined impulse range. On average, the gross profit margins for Elephant
House’s impulse range is 45% compared to the 30% for take-home packs.
4.3.2. Improved work environment will foster higher labor productivity

Refer to Section 3.3.2 of Non-Alcoholic Refreshment Beverages Productive Efficiency
4.3.3. Energy costs have been reduced by reduction in resource intensity and switching to
cheaper fuel sources
Refer to Section 3.3.3 of Non-Alcoholic Refreshment Beverages Productive Efficiency
5. Modern Retail
5.1. Demand drivers provide a favorable outlook for the industry
5.1.1. Average basket values of customers are expected to increase
Rising household disposable incomes permits the purchase of more products as well as
higher value products
SEC A & B households have experienced high growths in income in the past (Figure 2). These SECs
make up the primary target market of the modern retail industry. They are already purchasing
majority of the goods and services that they demand and face relatively less price sensitivity to
consumer staples, which form a minor proportion of their total expenditure. Further rises in their
disposable income will push them to purchase more premium, high value retail goods and services
thus inflating their basket values.
Disposable incomes for households in SEC C & D have grown steadily albeit at relatively slower rate.
Future rises in their disposable income will drive them to visit modern trade outlets, and expand
their range of items within their basket to include more indulgence consumer goods. Volume growth
will drive up basket values.
These households generally conduct their shopping at small and medium modern trade outlets
(SMMT) such as Sathosa or general trade outlets. Their consumption is also largely comprised of
consumer staples.
P a g e | 36
In 2016, the retail market was valued at LKR 4 trillion. Of this value, modern trade accounted for 15%
indicating its low penetration and thus future potential. Its penetration rates are also much lower
relative to regional peers such as Indonesia (16%), Malaysia (43%), Thailand (45%) and Singapore
(71%).
Modern trade captures a greater share of wallet by offering more diverse categories and
varieties relative to general trade.
Modern trade offers a far more diverse range of goods and services categories including groceries,
household items, fresh meats and produce, bakery items, and in some instances pharmacies and
banking services. The general trade offering, in most cases, is restricted to groceries and household
items, due to limited shelf space and lack of appropriate facilities. Consequently, modern trade
captures a relatively larger share of the wallet. Furthermore, modern trade offers a more diverse
variety of brands for a given product, empowering the customers with more choice.
The wider offering of modern trade is also a catalyst in driving up its basket values. Customers, who
are drawn into an outlet for the fresh produce or bakery items, tend to make other purchases based
on impulsivity. Furthermore, fresh meats and produce carry higher margins as they are not restricted
to maximum retail prices (MRP). Figure 21 depicts that the contribution fresh produce and meats
make to revenues has been increasing in importance.
Fresh produce & meat make a sizeable contribution

to revenue
100% Other
Liquor
80% Chilled Items
60%
Groceries
40%
20%
Fresh
Produce &
0%
2013/2014 2016/2017
Consumer staples face inelastic demand and are thus less susceptible to price inflation
Consumer staples such as basic foods (which includes items such as rice, vegetables, tea powder,
milk powder etc.) face inelastic demand due to their essential nature. Thus, in a high inflationary
environment, values of shopping baskets that largely comprise of consumer staples will rise due to
the positive price effect dominating the negative volume effect.
P a g e | 37
Volumes of consumer staples can withstand price

inflation
-0.2 Feminine Care
-0.5 Baby Care
-0.7 Cooking Oil
-0.7 Soaps
-0.9 Food
-1.0 Diapers
-1.3 Shampoo
-1.5 Private Labels
Figure 22 Source: Nielsen Sri Lanka – Retailer Roundtable Conference
FMCG growth in the last year has experienced a boost in value through price inflation, indicating a
sizeable proportion of FMCG items purchased being consumer staples.
Price inflation has contributed to FMCG value

growth
12% 10.6%
10%
8.3%
8% 7.2% 7.4%
5.6%
5.6% 5.9%
6% 3.8%
4%
2%
0%
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
-2%
2015 2016
Price Change Volume Change
Increase in household penetration of motor cars which enhances grocery carrying weight
The availability of motor vehicles to make shopping trips aids a higher carrying weight of goods that
can be purchased in a single trip. Prior to obtaining a motor vehicle, households would often travel
to retail outlets using cheaper forms of transport such as buses or by foot, which restricts the
feasible grocery weight in a single trip.
The population of motor vehicles has been increasing over the past few years as was illustrated in
Figure 16. There has also been an emergence in the availability of convenient taxi hailing apps such
as PickMe and Uber that competes with the ubiquitous 3-wheeler which continues to remain a
popular form of taxi transport.
P a g e | 38
Consequently, the retail industry stands to benefit from these positive mobility trends, as average
basket values will be enhanced through an increase in the number of items purchased.
Average daily drops and pick ups at major super

markets
Pick Ups Total
Monday
Drops Total
Tuesday
Wednesday
Thursday
Friday
Saturday
Sunday
0 200 400 600 800 1000 1200

Figure 24 Source: PickMe
5.1.2. Positive outlook for modern trade footfall

Increase in number of new customers
a) The value proposition of modern trade is greater relative to general trade: larger
number of categories, exploration & browsing of products, air-conditioning, parking etc.
Modern trade offers many value propositions that is absent in general trade; wider offerings,
freedom of movement, parking spaces and more.
Section 5.1.1 discusses the wider offering of categories relative to general trade. This proposition
will attract more customers due to the increased convenience of the ‘one-stop shop’ experience.
Certain categories such as fresh produce and bakery items will also increase frequency of visits due
to their relatively quick perishability.
Their outlets also permit the freedom of movement for its customers. This enhances the exploration
and browsing of products at the customer’s own convenience which provides a better shopping
experience.
Furthermore, the value placed on parking spaces increases as household penetration of motor
vehicles rises. Majority of the general trade outlets do not provide convenient parking, making it
more likely that households will shift to modern trade for their shopping needs.
P a g e | 39
b) Urbanization is opening up new, viable geographic areas for modern trade to penetrate.
Urban Population proportion
Sri Lanka 44%

Batticaloa 39%
Vavuniya 42%
Puttalam 43%
Galle 50%
Kandy 57%
Kalutara 62%
Gampaha 67%
Colombo 91%
Figure 25 Source: Institute of Policy Studies (IPS) of Sri Lanka
Urbanization has opened up positive prospects for modern trade, whose target segment is the urban
population, due to their relative sophistication and demand for a wider variety of products.
In recent times, the population in urban areas has been rising. The number of cities that exhibit
urban characteristics is increasing as well. These factors have contributed to the country’s
urbanization process. The extent of the country’s urbanization, however, cannot be captured by
official statistics provided by the department of census and statistics, which is largely
underestimated at 18.2%. A study conducted by the Institute of Policy Studies (IPS) using alternative
definitions of an urban area puts the proportion of urban population at 43.8%
At present, the modern trade industry is largely confined to the Western province, but as Figure 25
illustrates, other large cities are becoming more viable to sustain modern trade with healthy footfall
and basket values.
Increase in frequency of visits

a) Benefits provided by loyalty card schemes will encourage repeat visits
A loyalty card member has access to a range of benefits including the accumulation of points that
can be subsequently redeemed to purchase items, as well as discounts. These schemes are designed
to build loyalty amongst customers and thus ensure that the customers will continue to purchase
items from the associated modern retailer.
The benefits of loyalty cards are two-fold with the loyalty card system also providing the
supermarket chain a valuable database which can be used to gauge current consumer trends and
thus tailor strategies accordingly to ensure repeat visits.
P a g e | 40
b) Wider offering range of modern trade will attract top up or monthly shopping
The motive behind a customer’s visit to a retail outlet can be sub-divided into three broad
categories. Pantry re-stocking, which occurs on a monthly or even weekly basis and involves
replenishing the entire kitchen pantry. A pantry top-up is the replenishment of some major
categories in the kitchen pantry. An urgent pick up involves purchasing an item that is needed
immediately.
Reasons behind modern trade visits
Other
6%
24% 35%
Urgent pick up Pantry Restocking
35%
Pantry Top-up
The wider and more diverse offerings provided by modern trade makes it an attractive channel for
pantry restocking and pantry top-ups. These types of shopping visits bring in larger average basket
values. However, the convenience offered by roadside general trade outlets with a store clerk to
assist in retrieving the product makes general trade the more attractive channel for urgent pick-ups.
c) Plethora of major festivals will increase retail activity in days leading up to it .
Retail activity spikes during Christmas season
8,000,000
7,000,000
6,000,000
(in LKR)
5,000,000
4,000,000
3,000,000
2,000,000
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
2013/2014 2014/2015 2015/2016
The industry experiences seasonality due to a number of important festivals that have arisen out of
the pluralistic makeup of the population. Key festivals include Vesak (May), Sinhala and Tamil New
P a g e | 41
Year (April), and Christmas (December). The preparation for celebration of such festivals leads to a
surge in retail activity in the days leading up to the festival.
Observing the trends in quarterly retail sales for CCS’s retail segment, Keells Super, it is evident that
seasonality plays a role with the third quarter spikes being driven by Christmas season.
d) Modern retail players are in a better position to offer discounts and other incentives.
Modern trade players are in a better position to offer customers discounts and draw traffic into the
outlets. This is because their outlets operate on much larger square footages and SKUs relative to
general trade, consequently their retail volumes are much larger. Some of the tactics that can be
afforded and thus employed by modern trade outlets is to create loss leaders on basic consumer
staples so as to pull the customer into the market. The losses are then recuperated through the
impulse purchases that occur once the customer is in the supermarket. Forty-six percent of the
purchase decisions are made in-store according to Nielsen Sri Lanka.
The impact of discounting and promotion on retail sales varies according to the type of discounting
offered.
Discounting has a sizeable impact on sales
Buy 1 get 1 free 75%
Buy 3 for price of 2 40%
Buy 1 get 50% off

25%
second
25% price cut 15%
Change in average one week's sale for a particular brand

5.1.3. Potential threat from alternative grocery retail channels may emerge in the medium
term
The current local players in the supermarket sub-segment of the modern retail industry may face a
potent threat from alternative channels such as hypermarkets and online retailers.
Currently, there is only one chain of hypermarket operating in the country, under the brand “Arpico
Supercenter”. However, as disposable incomes and sophistications of the consumers improve, there
is increasing viability for hypermarkets. The threat for hypermarket can emerge from incumbent
local players, or from foreign chains such as French-based Carrefour and Abu Dhabi-based LuLu.
However, difficulty in obtaining suitable land may constrain hypermarket penetration.
The threat faced by online grocery retailers is nascent at present but may rise in significance going
forward. At present, the country’s largest online retailers; Takas.lk, Wow.lk and Ikman.lk are focused
on consumer electronics and cars.
P a g e | 42
Furthermore, modern retail faces regulatory and political risk due to pressures placed by general
trade in the form of asymmetric taxation such as the deemed VAT, and one-off costs on outlet size.
This will hand competitive advantage to general trade.
5.2. Competitive positioning of Keells Super is expected to improve

5.2.1. Intense competition between top two supermarket players in categories offered
Keells Super’s unique selling proposition is its focus on freshness and nutrition
Keells Super has focused on delivering freshness and nutrition as a value proposition to its customers
which has established its unique selling proposition over the market leader, Cargills.
In majority of the categories, such as groceries and household & personal care items, retailers are on
equal footing in terms of offering, due to the standard nature of such products and their relatively
longer shelf lives. Scope for differentiation exists in more perishable categories such as fresh meats
& produce, bakery as well as services provided. Keells Super is focused on providing the first batch of
freshly picked produce within 24 hours of leaving the farm-gate. It is also expected to be transported
using cold chain going forward. Fresher produce is not only nutritional but also enhances the taste of
meals further increasing the value delivered to customers. Other offerings include ‘Oven Fresh
Bread’ at the bakery. More recently, the chain has launched their latest offering ‘Super Fresh
Chicken’, which is chicken that is never frozen. This promotes quality and freshness of chicken, a
widely-consumed meat in Sri Lanka. The new offering has received positive feedback from its
customers.
Arpico captures a larger share of the wallet through a more diverse category offering
Operating as the country’s only hypermarket chain, Arpico occupies a much wider area on the
industry segmentation matrix through offerings such as home improvement products and
electronics thus capturing a larger share of the wallet. This is in contrast to Sathosa, a small medium
modern trade (SMMT) chain, that has a narrow offering and caters to a different target market.
Arpico also competes directly with Cargills and Keells through its super market chain operating
under the banner “Arpico Daily”.
The management of Keells Super, however, has no intention to enter the hypermarket industry at
present due to the lack of potential, given the country’s demographics.
5.2.2. Cargills is the most valuable brand amongst retailers

Amongst the industry’s grocery retailers, Cargills commands a much higher brand value relative to its
peers, Keells Super and Arpico as per the annual study conducted by Brand Finance Lanka and
published by LMD. This is due to is much larger presence throughout the island.
Brand Value (in

Brand Ranking 2016 2015 Change Brand Rating
LKR mn)
Cargills Food City 10 8 -2 14,568 AA+
Keells Super 17 21 +4 6,518 AA-
Arpico Supercentre 24 27 +3 4,773 A+
Table 15 Source: LMD
However, Cargills Food City has been dropping down the rankings since reaching its peak of number
4 in 2013. On the other hand, both Keells Super and Arpico has been gaining traction.
P a g e | 43
5.2.3. The conforming store format has been successful for Keells Super
Keells Super has shifted away from its original store format to the conforming store format which is
based on a much larger square footage and more parking slots. These conforming stores are sub-
divided into two formats. The larger conforming store is generally of 10,000 square footage of which
7,000 square feet is customer-facing. The second type of conforming store is relatively smaller with
approximately 7,500 square feet, of which 4,000 is customer-facing. The larger floor area enables
these store formats to hold more SKUs, and offer wider aisles and plentiful parking thus improving
the customer shopping experience.
Keells Conforming Store Layout
The company’s strategy going forward is to focus on conforming stores and either convert or close
down original stores. It will however face a threat from its biggest rival Cargills who have begun to
open similar format outlets.
Keells Super Conforming Store compared to Cargills new store format
P a g e | 44
5.2.4. Cargills’ geographic footprint is more spread-out relative to Keells Super
Figure 29 Source: Supermarket websites, Google Maps, JBS Research
The retail chain Cargills has the largest retail footprint in the modern retail industry with
approximately 300 outlets (Food City and Express), followed by Keells Super with 61 outlets and
Arpico with 36 outlets (Supercenter, Superstore and Daily). This marks a difference in strategies
pursued by the three large players.
Cargills has targeted maintaining a presence in all 25 districts of the country where as Arpico and
Keells Super in particular, have focused the Western province (Colombo and Gampaha district)
where a large population of modern retail’s target market, urban dwellers, reside. Furthermore,
household income per capita is the highest in the Colombo and Gampaha district, thus allowing for
higher average basket values.
A pitfall to this strategy, however, is the increased revenue cannibalization due to large overlapping
of customer catchment areas. Furthermore, Cargills may have gained a first-mover advantage by
entering into locations that may soon become viable for Keells to enter due to urbanization. Such
advantages include, securing prime outlet locations and capturing a customer base who become
familiar with the product placement within outlet and make habitual visits.
P a g e | 45
Mean Household Income by District

Colombo
Gampaha
Kalutara
Hambantota
Vavuniya
Kurunegala
Kandy
Ratnapura
Matara
Puttalam
Galle
Jaffna
0 20,000 40,000 60,000 80,000
(In LKR)
Figure 30 Source Household Income & Expenditure Survey 2012/2013
5.3. Productive efficiency gains will be expected

5.3.1. Modern retail segment is set to rapidly expand its scale of operations
Investment in new fully-centralized warehouse will boost efficiencies
The grocery retailing segment is planning an investment of LKR 3.4 billion to set up a centralized
warehouse. Currently, only 55% of deliveries is centralized.
In the fully centralized warehouse, suppliers will deliver their goods to the warehouse from where
JMSL will redistribute. The new warehouse of 250,000 square feet will be able to cater to an excess
of 200 stores and will be fully equipped with a cold chain from the collection centers to the new
warehouse. This cold chain will ensure that freshness of produce is maintained thus keeping to the
“Freshness & Nutritional” identity of Keells Super.
The segment will also implement a “delivery window” at its stores. This is a narrow window of time
during which the warehouse will deploy consolidated consignments to these supermarket outlets.
This contrasts with their current process where suppliers make deliveries to the outlets at various
times of the days. This narrow delivery window will increase labor and other efficiency at the store
during the unloading and shelving of consignments.
Acceleration in roll out of stores will benefit from economies of scale

The next financial year will see the opening of 40 new outlets, of which approximately at least 22 will
be opened in the calendar year of 2017. With the inclusion of closures of original format outlets, this
will bring a net of 34 new outlets to their existing 61 outlets. Of the 40 new outlets we believe 60%
will be of the 7k conforming format with the rest being of the 4k format, considering constraints
such as finding appropriate land sizes.
The subsidiary will benefit from a range of scale efficiencies as a result of this expanding network of
outlets, including logistical, advertising & marketing, and purchasing efficiencies.
P a g e | 46
The proximity of the new outlets due to the concentration in the Western province will yield
logistical efficiencies. Distribution from the warehouse to the outlets allows transport of goods to
outlets along the same route.
The larger outlet network will also increase the absorption of fixed costs, such as administrative
costs. Furthermore, a single marketing campaign for its supermarkets will drive footfall into a larger
number of outlets, thus spreading the adverting spend.
As the number of Keells Super outlets expands, JMSL will source more goods and increase their
proportion of the supplier’s total revenue thus increasing their bargaining power over suppliers.
5.3.2. Fixed asset turnover has dipped due to rapid store expansion
Fixed asset turnover has dropped

30
Fixed Asset turnover
25
Total Asset turnover
20
15
10
0
FY 11 FY 12 FY 13 FY 14 FY 15 FY 16
The acceleration in the opening of outlets has resulted in the decline of the fixed asset turnover,
however this does not imply that the segment is inefficiently employing their assets. Revenues of
new stores generally take time before they reach full-strength.
This declining trend is expected to continue as the rate of store opening is expected to further
accelerate from its current rate.
P a g e | 47
5.3.3. Low spoilage & wastage rates and improvements in energy intensity
Increase in efficiency of energy usage
FY 2014
Energy intensity
FY 2015
FY 2016
0 10 20 30 40 50
KwH per 100 square feet
Figure 32 Source: Company Annual Report, JBS Research
The supermarket segment consumption of energy is mainly derived from the outlets’ air
conditioning and cold stores. Some of the segment’s energy initiatives include the conversion of
retail outlets to LED lighting. By the end of FY 16, 21 outlets were powered by LED lighting
Furthermore, the spoilage and wastage rate for Keells Super stands at 1.5% of revenues which is
below global figures. However, the management still believes that there is room for improvement.
5.3.4. Labor attrition a challenge in the face of aggressive expansions

Human resources will be the greatest challenge in executing on the ambitious expansion plans.
Modern retail across all categories remain a growth industry thus one does not have a ready supply
of trained mid-level management to fill positions across the organization. Attracting, developing and
retaining talented management is a major challenge since the industry has previously had a low
attractiveness and developing the needed tacit knowledge requires hands on experience that cannot
be transferred through structured training. Other fast growing service sectors like tourism, other
retail formats like electronics and fashion, restaurants, etc. are also competing for the same talent
pool.
Retaining and motivating store level staff will perhaps be the greatest challenge due to the low social
acceptance of the job and nature of work. An observable trend in the labour force is the desirability
for more white-collar jobs even though the wages are lower due to its higher social acceptance.
Further, the nature of the job requires one to be on one’s feet during the shift and also requires a
modest level of physical effort in terms of restocking shelves and moving boxes around which is
more demanding on female staff.
The company hopes to address these challenges by focusing on building an employer brand and
improving their service orientation through better training.
P a g e | 48
6. Valuation
Our current estimated value per share for CCS as at April 28, 2017 is LKR 597 per share which is a
discount of 35.8% from the current share price of LKR 930.
This estimated value was derived from the combination of discounted cash flow analysis and relative
valuation, where a two-thirds weightage was placed on our DCF intrinsic value of LKR 435 and one-
thirds weightage was placed on the relative valuation value of LKR 922
6.1. Discounted Cash Flow

We have used a discounted cash flow model to arrive at an intrinsic value per share for CCS of LKR
435. A sum-of-the-parts method was used to, where we valued the manufacturing segment and the
retail segment to arrive at the intrinsic figure. The manufacturing segment obtained an operating
value of LKR 181 per share. The retail segment’s operations were valued at LKR 189 and the value
per share of the investment in Waterfront Properties, excess cash less debt amounted to LKR 65.
Key events and analyses incorporated:
▪ We have forecasted volume growth rate of -8% in both carbonated soft drinks and frozen
confectionery markets in FY 2018.The drought’s adverse impact on incomes and
discretionary spending throughout the calendar year 2017 and the exceptional but
unsustainable volumes achieved in FY 2016 and 1H FY 2017 due to a favorable economic
environment has resulted in this de-growth.
▪ The retail segment will see spurts in YoY revenue growth, due to the rapid expansion of its
outlet footprint. We have included 40 store openings in FY 2018, followed by 35 store
openings in FY2019 and accounted for the fact that a sizeable proportion of the store
openings will open in the latter half of the financial year.
▪ The CCS Group has also announced large capital expenditures to set up a PET bottling
factory, Ice cream factory and fully-centralized ware house which will amount to a total
investment of LKR 9.1 billion. We have assumed that these investments will be funded with
a minimum debt to equity capital structure of 50:50.
▪ We assume that gross margins in the manufacturing segment and retail segment will
maintain its current levels but increase marginally in FY 2021 from more efficient, new
factories as well as increased bargaining power over suppliers for the retail segment with its
considerably larger outlet footprint.
▪ We have added the fair value of Waterfront Properties (Pvt) Ltd, which is revised to every
three years.
Key Assumptions Column1

Risk free Rate 12.50%
Equity Risk Premium 7.00%
Beta - Manufacturing 0.67
Beta - Retail 0.90
Terminal Growth Rate 8.50%
P a g e | 49
Valuation Snapshot
(in LKR millions) FY 2016 FY 2017E FY 2018F FY 2019F FY 2020F FY 20201F
CCS Group
Revenue 34,069,211 42,836,769 52,307,107 72,666,945 92,650,267 111,475,087
YoY Growth 23.0% 25.7% 22.1% 38.9% 27.5% 20.3%
Gross Profit 5,496,471 6,768,369 7,273,100 9,156,297 11,525,643 13,809,713

Profit After Taxation 2,874,873 3,470,380 3,861,761 4,966,205 6,380,749 7,878,017
Manufacturing Segment
Revenue 12,190,925 13,542,462 13,782,246 15,798,037 18,344,586 21,173,654
YoY Growth 24.8% 11.1% 1.8% 14.6% 16.1% 15.4%
Gross Profit 4,595,895 5,010,711 4,961,609 5,687,293 6,695,774 7,940,120

Profit After Taxation 2,281,013 2,042,202 2,038,899 2,381,809 2,923,219 3,606,270
Retail Segment
Revenue 21,878,286 29,294,307 38,524,861 56,868,907 74,305,682 90,301,433
YoY Growth 22% 34% 32% 48% 31% 22%
Gross Profit 900,576 1,757,658 2,311,492 3,469,003 4,829,869 5,869,593

Profit After Taxation 696,202 1,428,177 1,822,862 2,584,396 3,457,530 4,271,746
Table 16 Source: JBS Research
Sum of the Parts Breakdown
Elephant House’s total operating value is lower than JayKay Marketing Services (JMSL) despite its
price per share being higher than that corresponding to JMSL. This is due to Elephant House’s
significantly larger investments which drove up the enterprise value of Elephant House relative to
that of JMSL.
P a g e | 50
6.2. Relative Valuation

We have performed a relative valuation on Ceylon Cold Stores and arrived at a price per share value
of LKR 921.70. This value contributes a one-third weightage to our estimated current value of CCS.
Methodology
We decomposed CCS into its two reportable segments; manufacturing and retail, and valued each
business segment separately.
The comparable peers deemed appropriate for CCS’s manufacturing segment were listed companies
that are operating in emerging Asia Pacific countries and engaged in the manufacturing of soft
drinks, packaged foods & meats. This is due to CCS operating in Sri Lanka, an emerging Asia Pacific
country, and manufacturing soft drinks and frozen confectionery. There were 421 comparable peers
in total. The 12M trailing price-to-earnings (P/E) ratio was the multiple used for this segment.
For the retail segment, listed companies operating in emerging Asia Pacific countries and engaged in
the business of food retail were used as comparable peers. A total of 33 comparable peers was
obtained. The value obtained for the retail segment was based on the 12M trailing price-to-sales
(P/S) multiple which was deemed appropriate as margins in the retailing sector eventually equalize.
Valuation Snapshot
In In LKR
Price per CCS Share 921.70
Manufacturing 766.53
Retail 155.17
Price of CCS Retail Segment 155.17

Median Price-to-Sales of comparable peers 0.53
12-month trailing Sales per Share for CCS Retail 292.76
Price of CCS Manufacturing Segment 766.53

Median Price-to-Earnings of comparable peers 23.25
12-month trailing Earnings per Share for CCS Manufacturing 32.97
Table 17 Source: Bloomberg, JBS Research
P a g e | 51
Ceylon Cold Stores Group
Column1 FY 2012 FY 2013 FY 2014 FY 2015 FY 2016 FY 2017E FY 2018F FY 2019F FY 2020F FY 2021F
Profitability Analysis
Gross Profit Margin 15.1% 12.1% 11.9% 13.3% 16.1% 15.8% 13.8% 12.5% 12.3% 12.3%
Operating Profit Margin 7.5% 4.5% 6.5% 7.8% 11.4% 10.6% 9.6% 9.1% 9.2% 9.3%
Net profit Margin 11.1% 8.3% 5.2% 5.5% 8.4% 8.1% 7.3% 6.8% 6.9% 7.0%
Liquidity Analysis
7. Ratio Analysis
Current Ratio 1.02 0.91 0.95 1.10 1.15 1.22 1.00 0.91 0.90 0.97
Quick Ratio 0.53 0.44 0.49 0.59 0.71 0.74 0.51 0.46 0.47 0.52
Cash Ratio 0.06 0.08 0.09 0.04 0.04 0.25 0.02 0.03 0.07 0.10
Solvency Analysis
Long Term Debt to Equity Ratio 0.16 0.13 0.12 0.11 0.11 0.10 0.20 0.34 0.33 0.24
Total Debt to Equity Ratio 0.84 0.63 0.59 0.55 0.58 0.61 0.72 0.93 0.99 0.89
Total Debt to Assets Ratio 0.46 0.39 0.37 0.36 0.37 0.38 0.42 0.48 0.50 0.47
Financial Leverage 1.84 1.63 1.59 1.55 1.58 1.61 1.72 1.93 1.99 1.89
Interest Coverage Ratio 32.41 26.60 26.37 69.56 280.58 553.82 1770.81 22.09 12.17 15.51
Working Capital Analysis
P a g e | 52
Inventory days 36.38 36.57 36.57 33.78 32.59 33.11 34.76 33.08 34.60 35.53
Receivables days 22.29 21.22 20.11 18.64 17.29 16.24 14.97 12.58 12.15 12.06
Payables days 44.23 45.17 46.38 41.60 44.32 44.64 44.94 42.78 45.28 46.52
Operating cycle 58.67 57.79 56.68 52.42 49.88 49.35 49.72 45.66 46.75 47.58
Cash conversion cycle 14.44 12.62 10.30 10.83 5.56 4.71 4.78 2.88 1.47 1.07
7.1.
Ceylon Cold Stores Group
FY 2012 FY 2013 FY 2014 FY 2015 FY 2016 FY 2017E FY 2018F FY 2019F FY 2020F FY 2021F
Tax burden 87.9% 84.3% 78.8% 71.1% 71.5% 72.0% 72.0% 72.0% 72.0% 72.0%
Interest burden 99.4% 99.0% 97.9% 97.5% 96.6% 94.6% 94.1% 91.6% 89.1% 89.4%
Operating
12.7% 10.0% 6.7% 8.0% 12.2% 11.9% 10.8% 10.3% 10.7% 10.9%
profitability
DuPont Analysis
NP Margin 11.1% 8.3% 5.2% 5.5% 8.4% 8.1% 7.3% 6.8% 6.9% 7.0%
Assets Turnover 1.87 1.66 1.55 1.73 1.88 1.92 1.79 1.79 1.76 1.78
ROA 20.7% 13.9% 8.0% 9.5% 15.8% 15.6% 13.1% 12.2% 12.1% 12.5%
Solvency 1.84 1.63 1.59 1.55 1.58 1.61 1.72 1.93 1.99 1.89
ROE 38% 23% 13% 15% 25% 25% 22% 24% 24% 24%
P a g e | 53
8. Corporate Governance Analysis

The Board Comments
Do independent board members constitute a majority of the 4 out of 8 board members are
YES
board? independent
Do the board members have qualifications that are relevant to the
YES
company's challenges?
Does the board and its committees have budgetary authority to
hire independent third-party consultants without having to receive YES
approval from the management?
Staggered election process where one
Are the board members elected annually or has the company
third of the directors retire by rotation
adopted an election process that staggers board member elections
and are eligible for re-election
Does the company engage in related party transactions with
management, board members or associated individuals with There exists a Related Party Transaction
YES
management or board members for goods and services on behalf Review Committee
of the company?
Has the board established a committee of independent board
YES
members to oversee the audit of the company's financial reports?
Does the company have a committee of independent board

members charged with setting executive YES
remuneration/compensation?
Mr. S. C. Ratnayake, Chairman and
Does the company have a nominations committee of independent
NO member of the Board of Directors is a
board members that is responsible for recruiting board members?
non-independent member
Does the company have other committees that are responsible for
YES
overseeing management's activities in select areas?
Management Comments
Has the company adopted a code of ethics and does the
company's actions indicate a commitment to an appropriate YES
ethical framework?
Can shareholders be satisfied that the company does not permit
the insiders and their family members to use company assets for YES
personal reasons?
Are the parameters of share-repurchase programs and price- There is no share-repurchase programs
YES
stabilization efforts appropriate? or price stabilization efforts
Has the management adequately communicated its long-term
YES Available on Annual Reports
strategic plans to investors and shareowners?
Does the management adequately understands and communicates
how nonfinancial KPIs and the environmental, social and
YES Available on Annual Reports
governance-related risk and opportunities are being handled by
the company?
Does the company adequately disclose management's financial
and nonfinancial performance in a consistent and transparent YES Available on Annual Reports
manner?
P a g e | 54
Shareowner Rights Comments

Has the company issued different classes of common shares? NO
Does the company permit shareowners to vote their shares
prior to scheduled meetings of shareowners regardless of Votes can be cast prior to meetings via
YES
whether the shareowners are able to attend the meetings in proxy
person?
Are the shareholders able to cast confidential votes? YES
Are shareholders allowed to engage in cumulative voting? YES Via proxy forms
Do shareholders have the right to approve changes to
corporate structures and policies that may alter the YES If approval is required
relationship between shareowners and the company?
Must the board receive shareowner approval for important A super-majority is required
YES
decisions? Is a simple majority or a super-majority required? depending on the certain criteria.
Are shareowners allowed to elect directors according to a
YES
"majority voting" standard?
Do shareowners have either a binding or advisory "say on pay"
NO
concerning management remuneration?
Do shareowners enjoy preemption rights that guard against
dilutive instruments such as new share issuances or convertible YES
securities?
Are shareowners permitted to recommend director nominees
to the board or place their own nominees on the proxy ballot? NO
In what circumstances?
Are shareowners permitted to submit proposals for
YES
consideration at the company's annual general meeting?
Are the board and management required to implement
YES
proposals that shareowners approve?
Are the shareowners permitted to take legal action or seek
regulatory action to protect and enforce their ownership YES
rights?
The above analysis was conducted based on “The Corporate Governance of Listed Companies: A
Manual for investors, Second Edition” by the CFA Institute
P a g e | 55
9. Glossary
CCS – Ceylon Cold Stores PLC

JMSL – Jay Kay Marketing Services (Pvt) Ltd
CSE – Colombo Stock Exchange
SEC – Securities and Exchange Commission
BFT – Beverage, Food and Tobacco
JKH – John Keells Holdings
CSD – Carbonated Soft Drinks
NARB – Non-Alcoholic Refreshment Beverage
FY 16 – Financial Year 2016
EH – Elephant House
SEC – Socio-Economic Classification
RTD – Ready to Drink
MRP – Maximum Retail Price
HoReCa – Hotels, Restaurants and Catering
SMMT – Small & Medium Modern Trade
AGM – Annual General Meeting
P a g e | 56
JB Securities Disclaimer
Rating Structure
JBS Research
In
JBS Investment Research Fair Value/Market

Explanation
Rating Value
Stock's price is at least 10% lower than
Buy >1.1
the JBS fair value
Stock's price falls between 10% interval of
Neutral 1.0 ± 10%
JBS estimates of fair value
Stock's price is at least 10% higher than
Sell <0.9
JBS fair value
vestment
Rating
Explanation
Analyst Certification
The views expressed in this research report accurately reflect the personal views of the analyst(s) about the subject security(ies) and
subject company(ies); and no part of the compensation of the research analyst(s) was, is, or will be, directly or indirectly, related to the
specific recommendations or views expressed in the report.
General Disclaimer
This research is for our clients only.
Other than disclosures relating to JB Securities, this research is based on current publicly available information that we consider reliable.
We perform analysis and create quantitative models and estimates derived from our own review of such publicly available data without
any assistance from any represented company. Our estimates and models reflect our own judgment only; they are neither all-inclusive nor
can they be guaranteed. The analysis and models are subject to change based on various other factors. Valuations are based on internal
quantitative models and qualitative interpretation. No representation or warranty, express or implied, is made that such information or
analysis is accurate, complete or verified and it should not be relied upon as such.
We seek to update our research as appropriate.
JB Securities shall have no liability, contingent or otherwise, to the user or to third parties, for the quality, accuracy, timeliness, continued
availability or completeness of the data or calculations in this document, nor for any special, indirect, incidental or consequential damages
which may be incurred or experienced because of the use of the data or calculations made available herein.
This report does not constitute a personal recommendation or take into account the particular investment objectives, financial situations,
or needs of individual clients. Customers are advised to use the information contained herein as just one of many inputs and
considerations prior to engaging in any trading activity. This report does not constitute a prospectus or other offering document or an
offer or solicitation to buy or sell any securities or other investments. This report is not intended to provide the sole basis of any
evaluation of the subject securities and companies mentioned in this report. Information and opinions contained in this report are
published for reference of the recipients and are not to be relied upon as authoritative or without the recipient’s own independent
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Disclosure
JB Securities does and seeks to do business with companies covered in its research reports. Investors should be aware that the firm may
have a conflict of interest that could affect the objective of this report. Investors would consider this report as only a single aid in making
their investment decision.
JB Securities, and all related parties do to not hold any position in Ceylon Cold Stores PLC as at April 28 2017.
All share prices are as at market close on 28 April 2017 unless otherwise stated.
P a g e | 57
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Ceylon Cold Stores PLC Initiation Report

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Ceylon Cold Stores INITIATING COVERAGE

Optimistic Foreign Investors Overshoot Key Stock Data

Analyst: Nishara Sangapalaarachchi – [email protected] Corporate Governance Score

Our outlook on CCS’s beverage segment is challenging in the short term

Carbonated soft drinks market to experience a deceleration in volume growth…

CCS to maintain its slight lead in the competitive landscape…

Longer payback period for CCS’s investment in new factory…

We maintain a stable outlook for CCS’s frozen confectionery

Short term dent in frozen confectionery market volumes…

CCS to maintain its superior competitive positioning…

Investment in new factory to expand medium term margins…

We hold a bullish outlook for CCS’s modern retail segment

Rapid expansion of conforming store formats to improve competitive positioning…

Investment in new, more efficient warehouse to improve margins…

Catalysts and possible downside to valuation

Further increases in excise duty on carbonated soft drinks a possibility…

Recent share price surge a result of foreign interest…

Risks to our recommendation

Waterfront Properties (Pvt) Ltd

2.3. Financial Snapshot of Ceylon Cold Stores Group

Gross Profit 3,044 2,925 2,816 3,670 5,496 4,142 5,437

2.4. Segmental Performance

Figure 1 Source: Company Annual Reports, JBS Research

2.5. Governance and Management

2.6. Ceylon Cold Stores Historical Timeline

2.7. Top Twenty Shareholders as at 31 December 2016

3. Non-Alcoholic Refreshment Beverages

3.1.1. Improvement in affordability of NARBs

Household incomes have experienced steady growth

100,000 9.7% 8 Year CAGR

Relative pricing of NARBs is low

Retail Price per

Sri Lankan Coca Cola price highest amongst peers

3.1.2. Change in consumer lifestyles will threaten CSD volumes

Emergence of health-conscious consumers who seek healthier diets

a) An increase in excise duty is a potential headwind

Sri Lanka's excise duty has potential to increase

b) Governmental regulations have been imposed to curb consumption of CSDs

An illustration of the color coding on a 2 liter Coca Cola bottle

Negative correlation between rain and CCS sales

CCS Sales (in LKR millions)

Figure 6 Source: Central Bank of Sri Lanka, Company Annual Reports

Festivals boost demand for NARBs as a form of indulgence

3.1.4. Shifts in population age structure unfavorable for CSD segment

0% 2% 4% 6% 8% 10% 12% 14% 16%

Age 50+ cohort growing relatively faster, age 15-35

3.2. Elephant House has achieved a superior competitive positioning

Local CSD market is highly concentrated

Figure 10 Source JBS Research

3.2.2. Pricing power of CCS’s beverage segment

CCS has pricing power in its beverage segment

150 implemented on 1 Nov.

110 Tax Burden

Figure 11 Source: JBS Research, Bloomberg, Sri Lanka Customs

3.2.3. CCS’s beverage portfolio is more diverse relative to its competitors

Figure 12 Source: JBS Research

CCS’s flavor range is more expansive within the CSD segment

Coca Cola Elephant House PepsiCo

3.2.4. Wide array of packaging options to cater different needs

Orange Crush Light