Highlights

• Several newspaper publications stated that BAT will be raising prices. Our checks with the company has confi rmed that it will be raising its cigarette prices by RM0.30/20-stick pack for its premium and value-for-money (VFM) brands effective 29 July 2015.

• Post-price hike, new cigarette prices would be RM13.80 & RM12.30 for premium and VFM segments respectively.

Comments

• The hike is not a complete surprise given that BAT has revised pricing 3 times since the implementation of the GST. This price revision is due to BAT now passing the GST to the consumers, after having absorbed the GST for 3 months since the company did a complete u-turn on its pricing strategy on the 17th April, citing competitive pressures. (Recall that on the 1St April, prices increased by 50 Sen/20- stick pack)

• The quantum of the hike is 2.2% for the Premium segment and 2.5% for the VFM segment; which is less than the price hike during the fi rst GST price revision. (3.7% for Premium segment and 4.1% for VFM segment)

• In terms of volume, we believe the market share of illicit cigarettes’ would benefit and its increasing trend reinforced. Recall that Wave 3 2014 indicated an increase of 5ppts to 32.8%, up from 32.3%, the RM1.50 price hike in November 2014 most certainly being a factor. The increase in cigarette prices would further hamper legal industry volume as the price gap widens further (legal volume vs. illicit volume) despite the commendable efforts by the enforcement agencies.

• We opine that any margin expansion from the price increase could potentially be offset by pressures on volume. We reiterate we had al ready imputed a double-digit decline in volume for FY15.

• Historically, BAT has enjoyed the price leadership position. However we saw this trend being tested recently, recall that JTI did not increase the price of its premium brand, whilst PMI increased their prices by a lesser quantum in conjunction with the implementation of the GST on the 1st April. Despite no similar announcements from JTI or PMI, we will be keeping an eye on the price movements of the competitors.

Risks

• (1) Exceptionally higher excise duty hike; (2) Increase in illicit trade volume; (3) Weaker-than-expected TIV; and (4) Regulation tightening.

Forecasts

• Unchanged as we had already factored in double-digit volume decline to offset any margin expansion from price hikes.

Rating

HOLD

• Positives – (1) High dividend yield stocks; (2) Countercyclical share price pattern; (3) Oligopoly industry; and (4) Resilient earnings and low capex requirements.

Negatives

• (1) Highly regulated industry; (2) Potential excise duty hike; (3) High level of illicit cigarettes in the market; and (4) Prices already reflect fundamentals

Valuation

Maintain HOLD with TP of RM63.20 based on DCF valuations.

Source: Hong Leong Investment Bank Research - 29 Jun 2015