Carlsberg’s reported 1Q20 core PATAMI of RM73.0m (QoQ: +7.8%, YoY: -18.2%) which made up 25.1% and 25.7% of HLIB and consensus forecasts, respectively. We deem this below expectations as we expect significantly weaker earnings in 2Q due to MCO. Post annual report update and adjusting for lower expected sales in 2Q20, we lower our FY20/21 earnings forecasts by 11.5%/1.6%. While we raise our TP from RM18.60 to RM21.00 (largely on valuation parameter changes), our rating downgraded from Hold to SELL given recent share price run up but more importantly, the suspension of dividends which was supposed to provide some assurance in these trying times.

Below expectations. Carlsberg’s reported 1Q20 core PATAMI of RM73.0m (QoQ: +7.8%, YoY: -18.2%) which made up 25.1% and 25.7% of HLIB and consensus forecasts, respectively. We deem this below expectations as 1Q is seasonally a strong quarter, typically making up ~30% of full year earnings. Additionally, we expect significantly weaker earnings in 2Q due to MCO. The shortfall in earnings was due to steeper than expected decline in sales from the covid-19 outbreak.

Dividend. Carlsberg announced they have decided to suspend dividend payment for this quarter (1Q19: 21.5 sen).

QoQ. Higher sales (+2.8%) from Chinese New Year in 1Q20 in addition to higher contribution from associate company Lion Brewery (Sri Lanka) of RM5.1m (vs. RM1.6m in 4Q19) resulted in core PATAMI rising 7.8%.

YoY. Weaker sales in Malaysia (-11.3%) was due to the MCO, which caused the suspension of production and closure of on-trade sales channels (bars, clubs, dine restaurants etc.) from mid-March onwards. Similarly, sales in Singapore declined 8.6% from the Covid-19 outbreak, which reduced consumer spending on beer. Overall, core PATAMI declined -18.2% from lower sales.

Outlook. We are encouraged by Carlsberg’s response to the hurdles the MCO poses to the industry. Carlsberg’s Adopt-A-Keg marketing campaign encourages consumers to buy Carlsberg products with the incentive of redeeming free beers after the conclusion of the CMCO at participating bars, with the additional cost to be borne by Carlsberg. Despite the positive steps Carlsberg have taken, we expect significantly weaker 2Q20 earnings as we note that it has halted production from 18 Mar to 2 May. This coupled with the absence of on-trade sales (bars, restaurants, hotels etc.) during the MCO period lead us to believe that sales will be lower by 30-40% in 2Q20 YoY.

Forecast. Post annual report update and adjusting for lower expected sales in 2Q20, we lower our FY20/21 earnings forecasts by 11.5%/1.6%.

Downgrade to SELL. Despite the earnings cut, we take this opportunity to better reflect certain valuation parameters: (i) lower WACC from 9.5% to 8.5% (TG unchanged at 2.5%) to reflect the partial subsidising “production risk” now that it has been allowed to recommence operations during CMCO; and (ii) rolling over valuation horizon from FY20 to FY21. All in all, our TP rises from RM18.60 to RM21.00. Although TP has been raised, we downgrade our rating from Hold to SELL given: (i) recent share price run up, but more importantly, (ii) the suspension of its dividends which was supposed to provide some degree of “safety net” in these trying times.

Source: Hong Leong Investment Bank Research - 8 Jun 2020