- We re-initiate coverage on Berjaya Food (BFood) with a BUY recommendation and a fair value of RM2.40/share, based on a fully-diluted PE of 18x on CY16F earnings.

- Our BUY call is primarily underpinned by its relatively attractive valuation post the pullback in its share price (-36% from Nov 2014 peak; YTD: -31%) and the anticipated recovery in Starbucks’ same-store sales. The latter is already underway.

- BFood’s valuation at current price is undemanding. The stock is trading at its trend average of 16x over FD CY16 earnings. We peg our fair value a tad above that – at 18x – to reflect its strong franchise value and attractive direct leverage to Starbucks Corp (SBUX US Equity), which has a higher forward PE of 34x.

- We believe Starbucks’ prospects remain sound despite its flat FY15 SSSG. While SSSG for 1QFY16 is expected to be muted due to the GST implementation, the June/July fasting month and seasonal weakness, we are not too concerned as we foresee a stronger 2H in view of the school holidays and festivities.

- 2Q, which is usually BFood’s softest quarter, may also surprise on the upside as we understand from management that sales for August 2015 may be the highest ever for Starbucks historically (usually December) as SSSG for the first three weeks was already 17% above that of August 2014.

- On top of the planned store expansions (target of 25 stores p.a.) and ongoing A&P activities, Starbucks’ revenue growth will be supported by merchandise sales from its new concept stores. The maiden store at Batu Ferringhi, which opened in May, was very well received (sales was 5x above a regular store’s with 10% contributed by merchandise). Plans are afoot to replicate this concept at KLIA and Bukit Bintang, KL.

- More interestingly, we learned that the group will have a new revenue stream from the sale of RM1.2mil/month worth of Starbucks gift cards to convenience stores from October onwards. As the tender rate for Malaysia is the highest globally, we expect this to also be positive for sales moving forward.

- For KRR, we believe that its Malaysian business will remain profitable with the introduction of new products and promotions but we expect its Indonesian operations to undergo store rationalisation to narrow losses. Overall, BFood’s store expansions remain robust with 44 confirmed sites for FY16F.

- BFood turned net debt in FY15, after having geared up for the Starbucks acquisition. With management committed to paring down its debt, we expect its net gearing to fall to 0.3x. We see no risk to its dividend payout, which translate to yields of ~4%.

- We forecast BFood’s core earnings to expand from RM26mil in FY15, to RM39mil in FY16F, and RM49mil in FY17F (3-year CAGR: 29%). Margins are expected to be stable overall as the better margins from Starbucks would be offset by KRR’s. Impact from the USD appreciation is also minimal.

Source: AmeSecurities Research - 9 Sep 2015