Investment Highlights

• We maintain our BUY recommendation but raise our TP to RM3.20 (from RM3.00/per share). Our TP is based on 17.0x CY18F P/E, which is a 20% discount to the simple average PE of its FMCG peers of 23x. We like OldTown for its export-driven growth, market leader as #1 white coffee brand in all its core markets and outstanding operational track record.

• Key takeaways from OldTown’s briefing included:-

1. OldTown has locked in their yearly coffee contracts at prices 10% above our initial assumption of USD1,932/MT for FY18. It is a -4% impact to our FY18 EPS.
2. The spike in S&D expenses to 19.7% of revenue for FY17 (vs FY16: 17.6%) is expected to gradually grow to 25% over the next 5 years in tandem with OldTown’s market expansion plans. We note it is a gradual shift from its past of domestic FMCG sales realising substantial synergistic gains with its F&B physical store presence. (Power Root comparative - Exhibit 5)
3. For the quarter, China FMCG sales registered 71% YoY. It is growing stronger than we expected, spearheaded by its online growth. As a result, we double our China sales to 40% for FY18. As of FY17, China’s FMCG contribution is now close to 25% of total FMCG sales.
4. The 23% spike in employee cost was attributed to its F&B segment. It is in relation to foreign labour restrictions and is expected to persist going forward. .
5. As per our expectation, outlook on its F&B operations locally remains soft. However, we are pleasantly surprised over its foreign store expansion outlook, in China and Myanmar. It will be on a licensing basis, resulting in minimal risks to OldTown in our opinion.
6. The RM4.8mil provision for the quarter was due to precautionary writedowns of its F&B operations in Singapore. We gather it is one off in nature with the possibility of writebacks should conditions improve.
7. We are positive over OldTown capex doubling in FY18. The incremental spending is expected to improve its FMCG operational efficiency through further automation. It is expected to be completed in 3QFY18.

• We trim our earnings by 7% and 2% respectively for FY18/FY19 after updating our assumptions (Exhibit 6). We believe the vast untapped China (Exhibit 1) market offers to OldTown still far outweighs the near term lofty commodity prices and the present, but receding F&B headwinds. We take this opportunity to roll forward our valuations to CY18F from FY18F.

• Key risks include its USD/MYR forex exposure and higher than expected A&P. Upside to our forecast includes falling palm oil prices. A 10% deviation from our MYR4.40/USD and palm oil assumption would impact our FY18F EPS by approximately 8% and 5% respectively (Exhibit 8).

Source: AmInvest Research - 29 May 2017