Investment Highlights

• We came away neutral from our meeting with management. Prospects and outlook remain intact. We upgrade our recommendation to HOLD from SELL as the share price has consolidated close to our valuations. Our unchanged fair value of RM4.52/share is based on a PE 15x pegged to FY19F, which is a slight premium to its 5-year historical average. While we like Padini for its execution and regional expansion-supplemented growth, valuations are fairly reflective of prospects ahead.

• Key takeaways from the meeting included:
  • i. Cambodia expansion is not a game changer. Cambodia’s inaugural expansion has been well received. However, Padini is still ironing   out teething backend operational issues. Going forward, it looks to complete two store outlets by May. Management played down expectations of Cambodia as an immediate catalyst to growth. Instead, it sees that as a supplementary export growth market in the longer term. The 5-year aim is for revenue to have a local:export mix of 90%:10%.
  • Entry into a new regional market. Aligned to its 5-year revenue mix goal, Padini looks to secure the entry into a new regional export market by end-2019, at the latest. We gather that the prospective market is unlikely to be more mature and established customer bases such as Thailand or Indonesia. It leaves remaining possibilities such as Myanmar, Laos and Vietnam. Such markets including Cambodia will likely only prove fortuitous as an impetus of growth in the longer run, in our opinion. This is likely to be gradual, through improvements in general affordability, brand awareness, critical mass and available infrastructure for expansion.
  • Domestic outlook remains lukewarm. Management did not quite share the same enthusiastic projections of Retail Group Malaysia, which expected Malaysia’s 2018 retail sector to grow by 4.7% (2017: 2%). Consumer feel on the ground remains cautious. We believe domestic revenue growth will be driven by sustained store expansions in the range of 10-15 stores per annum going forward. FY18 is expected to see the addition of 12 stores (6 Brands Outlet and 6 Padini Concept Stores). While we understand for store additions to be within tier-1 cities, it will be at a lower proportion of Klang Valley stores which could prove dilutive.
  • 3QFY18 results to be more robust QoQ and YoY. Festive-related spending will be recognised in 3QFY18 as opposed to 2QFY17 due to a mismatch in timing. We expect a more robust topline and subsequently higher gross margins tied to improved product mix heading into 3QFY18. We expect gross margins to improve against 2QFY18’s 39.2%. Management expects normalised margins to typically fall in the range of 38-42%. A 1ppt deviation from our FY18F gross margin assumption of 40.6% will result in a 7.3% impact to earnings.
• Key risks include heightened competition from other fashion apparel retailers, deteriorating consumer sentiment, the weakening MYR vs. CNY and fewer addition of stores going forward.

Source: AmInvest Research - 2 May 2018