Pos is looking to improve operating efficiency by investing into technology and revamping operations. Capex is expected to increase to RM450m p.a. over the next 3 years (IT platform RM200m, renovating buildings RM150m, and maintenance RM100m) from RM110m. This will be funded using existing cash and gradual increase in borrowings from FY20 onwards (we estimate RM30m/year). Postal segment will only rebound in the midterm (we estimate 5 years) once e-commerce businesses resort to Postal services for cost saving benefits at the expense of the growth in the Courier segment. We downgrade to a HOLD rating with RM3.61 TP (25x FY19 P/E) from RM4.15 as we cut earnings forecast by FY18: -7% FY19: -11% and FY20: -29% due to higher capex and lower EBIT margin moving forward amidst intense pricing competition and from the shift in volume growth from courier to postal mail.

Investing Into Technology and Renovation. Newly appointed CEO, En. Ishal Ishak is targeting to place more emphasis on improving operating efficiency through investing more into technology. Management has guided a yearly capex of RM450m (historical average of c.RM110m) for the upcoming 3 years mainly spent on: (i) renovation of buildings (points of sale, IPC, and E-fulfilment hub) (RM150m); (ii) IT platform upgrades (RM200m); and (iii) maintenance (RM100m). Revenue recognition of the Courier segment is currently not efficient as the existing system is relatively archaic. Thus, management is planning on an overhaul of its IT platform to a more stable and reliable track and trace system to capture transactions more efficiently (previously patching the system instead due to cost concerns). Renovation of buildings include the E-fulfilment hub, the Integrated Parcel Centre (mail sorting facility), and old outlets. The e-fulfilment hub located at the old LCCT is undergoing renovations to include more shelved racks, CCTVs, fire sprinklers, etc., to allow full utilisation of the hub. Old outlets will have a more customer friendly and aesthetically pleasing environment to bring them up to par with competitors e.g. DHL and FedEx. The capex will be funded using the company’s strong cash position (RM560m as of 3QFY18) alongside gradual increase in borrowings from FY20 onwards (we estimate RM30m/year).

E-commerce to Boost Postal Segment in the Midterm (we Estimate 5 Years). We expect the (traditional) Postal segment will continue to drag earnings for the next 4 years. However, management guided that the Postal segment will benefit in the midterm from the pick-up in e-commerce businesses. This will be due to cost saving benefits of postal services as many e-commerce businesses are currently subsidising courier delivery costs for consumers. In the midterm, we expect the Postal segment to rebound but with cannibalising some of the Courier segment growth once the courier delivery costs are fully transferred to customers. This is expected to affect overall earnings growth as the Postal is a lower margin service vis-à-vis Courier.

Outlook. The upcoming FY19 will be a consolidation year for Pos as we believe the initiatives to improve the operating efficiency will only be apparent in the midterm. Pos will continue to be dragged by its high fixed cost structure, sunset conventional postal services and stiff competition in their courier division against a backdrop of the e commerce boom.

Forecast. We cut earnings forecast by FY18: -7% FY19: -11% and FY20: -29% as we adjust for higher capex and lower EBIT margin moving forward amidst intense pricing competition in the postal and courier segment.

Downgrade to HOLD, TP: RM3.61 from RM4.15 pegged to unchanged 25x FY19 P/E as we believe the upcoming year will be a consolidation year for Pos.

Source: Hong Leong Investment Bank Research - 11 Apr 2018