Highlights

• Shariah-Compliance. Effective 25/11/16, Old Town Bhd is no longer a Shariah compliant counter. Management guided this was due to ‘cash over total assets ratio exceeding the benchmark of 33%’. In order to avoid breaching this rule, the group must maintain cash in conventional funds under 33% of assets by transferring excess funds into Islamic instruments.

• Following the group’s removal from the shariah-list the group has moved made the necessary adjustments to its allocation of funds to comply with shariah rules. However, Securities commission rules states that shariah-compliant certification may only be granted after the examination of a company’s audited accounts. As the group’s financial year ends in March, we anticipate the group will only be reclassified as shariah compliant upon the release of the shariah list at the end of November 2017.

• For Oldtown’s business outlook, we anticipate revenue to grow in the FMCG segment due to exports being denominated in foreign currency enjoying translation gains in this time of weak ringgit. Management revealed that on singles day (The largest shopping day in China on 11/November) alone, the group made CNY 5m (~RM3.2m) in e-commerce sales, more than triple the CNY 1.5m in sales it made on singles day last year. Exports make up 62% of total FMCG sales.

• Performance in the FMCG segment is expected to stay strong as the group had locked in coffee powder prices, which make up 30% of FMCG cost of sales, at a fixed price for the remainder of FY17 (ending March) with its suppliers despite recently rising raw material costs of creamer and sugar.

• In the café chain segment, we anticipate 2H17 to stay steady as higher same store sales experienced in 1H17 to continue but offset by higher labour costs from the hike in minimum wage that begun in July this year.

Risks

• Relatively elastic demand.

• Persistent low consumer sentiment.

Forecasts

• Unchanged

Rating

• (BUY ; TP 2.09)

• OldTown poses a loyal customer base domestically, exemplified by its status at the market leader in white coffee. Its foray into ASEAN and PROC also provides potential room for growth going forward.

Valuation

• Upgrade our call from HOLD to a BUY at an unchanged TP of RM2.09 based on a P/E multiple of 16.8x on FY18 EPS as we believe the pared-down share price currently from shariah funds selling the stock after the surprise news and will likely normalize by the favourable business prospects going forward

Source: Hong Leong Investment Bank Research - 28 Nov 2016