Stock Name: JTINTER
Company Name: JT INTERNATIONAL BHD
Research House: AMMB

Tobacco sector
Maintain neutral: As we have anticipated, Budget 2011does not contain any hike in excise duty nor indirect taxes on tobacco products. This marks the second time tobacco excise duty was spared in the budget.

Despite this, we maintain 'neutral' on the tobacco sector. A contraction in legitimate total industry volume (TIV) is imminent moving forward, following the unexpected hike in excise duty on cigarettes by 16% on Oct 1. Recall, tobacco excise duty was raised by three sen per stick from 19 sen per stick to 22 sen per stick then.

In response, cigarette manufacturers British American Tobacco (BAT) and JT International (JTI) raised retail selling prices by 8%. Consequently, a premium 20s label now retails at RM10 per pack, as opposed to RM9.30 per pack previously.

We make no change to our recently revised TIV contraction of 3% and 4% in 2010 and 2011. Compared with the 11% year-on-year (y-o-y) decline in 2009, we reckon the contraction in TIV would be much milder this time around, given improving consumer sentiment in tandem with the broad-based economy.

Notwithstanding the high level of illicits at 40%, which continue to hamper growth of legitimate TIV, growth of ELPCs (exceptionally-low-priced-cigarettes) has turned stable. Besides, TIV volume (sticks sold) for 1H10 as measured by Nielsen Retail Audit is flat y-o-y, suggesting a potential downward trend reversal.

Despite the lack of positive catalysts for industry growth, both tobacco stocks are still attractive for their defensive attributes. We maintain 'hold' on BAT with an unchanged discounted cash flow-based (DCF) fair value of RM44.30 per share for the group's stellar dividend track record as premised on a >90% dividend payout. Net dividend yield of 5% per year is still decent.

For exposure to the sector, we prefer JTI for its more resilient earnings as underpinned by a better product portfolio mix of premium to VFM labels. aintain 'buy' on JTI with an unchanged DCF-based fair value of RM6.15 per share.

We expect JTI's market expansion to continue on the back of a stronger brand equity moving forward, with Winston as a stronger contender within the VFM segment. In addition, our conservative dividend payout assumption of 55% per year (net dividend yield: 5%) and the group's growing cash pile suggest a potential dividend surprise. ' AmResearch Sdn Bhd, Oct 18


This article appeared in The Edge Financial Daily, October 19, 2010.