• We remain Neutral on Kawan Food’s prospects following our recent meeting with the company. Management guided for a moderate performance in 2018 due to stable demand for its product.

• Kawan Food’s new plant at Selangor’s Halal Hub, Pulau Indah is completed and expected to operate from October 2018 onwards.

• We expect the diversification of channel distribution and product innovations by the company will provide a 5-10% revenue growth. The company has also allocated RM20m capex for the upcoming years.

• We maintain our HOLD recommendation and TP of RM2.66 with PER of 30x.

Pulau Indah’s plant undergoing trial basis

Kawan Food’s new plant in Selangor Halal Hub is finally completed. According to management, this plant is expected to cater to the growing demand of its products both from export and domestic markets. We anticipate that the new plant production will start to contribute to FY19F bottom line.

Targeting new export markets

At present, export market accounts for 61.1% of the revenue with the company exporting its products to North America, Europe, Oceania continents and UAE. Management expects to expand their ethnic food products to Latin America in the near future. This new market is expected to increase their paratha demand which is currently their top product. To recap, paratha’s export revenue stood at approximately RM79m as at FY17, accounting for 40% of total revenue.

Diversifying on distribution channels

The recent management guidance mentioned on their intensification for HORECA (hotels, restaurants, caterers) channel. Direct channels would be part of their long-term strategy to increase distribution for their products.

Maintain HOLD, TP of RM2.66

We maintain our HOLD recommendation with TP of RM2.66 after we applied 30x PER of FY18. We retain our earnings forecast and neutral outlook as we expect growth remain to be modest and unexciting for FY18. The company is expected to announce its result in the final week of August 2018.

Key takeaways from Kawan Food corporate meeting

We organised a corporate meeting with Kawan Food management on 2nd August 2018. Key highlights from our meeting are as follow:

1. Pulau Indah plant’s update.

The long anticipated new plant by Kawan Food has finally completed after facing hiccups for the past 3 years. It is understood that some facilities setback and regulation hitch were the main causes for the arduous delay. We were informed that this plant will commence production in October 2018 onwards and is currently on trial basis.

• Production relocation. Kawan Food operation located in Shah Alam is in the midst of relocation to its new completed plant in Pulau Indah, Selangor. The plant is located on a 10-acre site at the Selangor’s Halal Hub. The current oriental production line in Seksyen 16 has completed their transfer whereas the paratha’s and chapatti’s production line in Seksyen 15 will be relocated soon.

• Transportation costs adjustments. The plant proximity to ports such as Westports will reduce its transportation cost for export products. However, we expect the cost saving will not impact its profitability significantly due to expected increase in cost of distribution to domestic markets. This is attributable to Pulau Indah’s distance further away from Kuala Lumpur/Klang Valley.

• Higher utility costs. We expect that the new plant will incur higher electricity costs due to higher volume production capacity (5000 paratha pieces/hr) and larger cold room requirement. It is assumed that this capacity is 3 times higher than the current paratha production capacity in Seksyen 15 plant. We do not envisage the sharp increase in utility cost will dent the margin as the overhead costs (electricity, diesel, depreciation etc) comprise 20% of the total costs.

We believe the new plant will only have full impact on business performance and generate better margins in FY19 as the lines get into full swing.

2. Growth strategy.

Management expects the new plant will be able to facilitate demand growth from the export market as current production is facing capacity constraint. Furthermore, efforts are being made to increase the export countries destinations for products sales.

• Diversification of distribution channels. Kawan Food plans to increase their focus on HORECA (hotels, restaurants, café, and caterers) distribution channel. While this will promote its ready to eat (RTE) products, other products are also expected to gain traction due to better demand from this channel. However, we estimate profit margin will not be impacted despite a reduction in packaging costs. This is due to increase in logistics cost whereby this direct channel requires frequent deliveries on fresh products.

• Product innovations. The company’s devotion to its R&D separates them from competitors, according to management. Recently, Kawan Food has launched products to cater the consumers’ changing lifestyles. Chocolate paratha, multigrain mantou, onigiri to name a few are part of the growing Kawan Food’s products. Although we are positive on the increase in products, it is too early to gauge consumer reception.

Source: BIMB Securities Research - 6 Aug 2018