Investment Highlights

• We maintain our UNDERWEIGHT recommendation on Nestle (Malaysia) with an unchanged FV of RM111.09 based on DCF valuation (5.2% WACC, 2.0% terminal growth rate).

• We like Nestle for its established presence, position as the market leader in the FMCG space and efforts to streamline its operations, which should translate into improved operating profit margins. However, as the company is trading at 52.9x PE, which is a premium to Nestle’s 5-year forward PE of 37.1x, we believe that the stock is fully valued.

• In 1HFY19, Nestle was impacted by a 7.2% YoY decline in its export sales due to softer demand in some of its exports markets. We believe Nestle’s export sales will continue to be challenged by tough global economic conditions in the subsequent quarters. On the other hand, we expect domestic sales growth to remain robust driven by innovation, sustained consumer demand and strong promotional sales.

• The group faced unfavourable raw material prices from the increase in barley and wheat prices, which are inputs for several of its MILO products (wheat +10.5%YoY; barley +12.0% YoY) as shown in Exhibit 1. We anticipate prices to continue to rise due to an ongoing drought in Australia which is affecting its harvest. Australia recently announced a cut in its wheat production forecast.

• On top of this, cocoa prices have started rising, growing 5.8% QoQ in 2QFY19. There are also uncertainties over a proposed floor price and income differential of US$400 per MT on the cocoa bean supply by the top two producers, Ivory Coast and Ghana.

• Positively, Nestle has recently launched Starbucks at Home, a new range of premium coffee products. This includes Starbucks capsules that were developed using the Nescafe Dolce Gusto proprietary coffee and system technologies. Nestle is continuously launching impactful products as part of its strategy to drive growth through product innovation.

• We believe that Nestle’s growth will be buoyed by the completion of its Chembong plant which will expand the capacity for its Milo products. With higher capacity, we expect EBITDA margins to remain decent as the group achieves better economies of scale.

• We anticipate FY19F and FY20F EBITDA margins to be 19.0% and 19.7% respectively supported by operational savings from the streamlining of the group’s supply chain and the commissioning of its Chembong plant in FY20.

Source: AmInvest Research - 29 Aug 2019