- We are downgrading Cocoaland Holding to a HOLD with a lower fair value of RM2.00/share (vs. RM2.60/share previously), based on our DCF valuation, following an earnings revision.

- Cocoaland’s 1QFY14 were below expectations. Cocoaland reported disappointing 1QFY14 net profit of RM3.4mil. This accounted for only 14% of our forecasts.

- The disappointing results were due to lower sales in gummy and beverage production lines coupled with higher advertising cost.

- 1Q sales were impacted by weaker consumer spending which resulted from the government’s rationalisation programme, despite the Chinese New Year period. Operating environment is envisaged to remain challenging given its discretionary products.

- The group was also faced with higher cost of production coming from a reduction in sugar subsidy as well as higher electricity cost. EBIT margins contracted further to 7.9% vs. 4QFY13’s 15.1% and 1QFY13’s 8.1%.

- All in all, we have tweaked our earnings downwards by 25%-29% to incorporate lower sales and margins. We now expect FY14F earnings at RM19mil, RM22mil for FY15F and RM24mil for FY16F. We think earnings would be stronger in 4Q, buoyed by the festive season.

- Moving forward, we reckon that stronger earnings contribution is likely to come from exports given its rising contribution. The group had been marketing more aggressively in China, Vietnam, Indonesia, and Jakarta.

- A further downside risk to our earnings is the impact of water rationing. We understand that the group had been purchasing water directly from Syabas to continue production during the water supply disruption.

- On a side note, we think that it is a matter of time for potential synergies to materialise with its indirect strategic partner, Thai Beverage. As it is, Fraser & Neave (which holds a 27% stake in Cocoaland) has been distributing Thai Beverage products in Malaysia since last year.

- Balance sheet (with a debt-free position) is strong with a cash pile of RM9mil, as at end-1QFY14.

- At the current level, the stock is trading at an FY14F PE of 19x. This is above its 5-year trend average of 18x.

Source: AmeSecurities