With permission for construction activities to resume, Nestle expects production capacity and efficiency upgrade to ramp up. Despite the encouraging vaccination rate, the volatile external factor with new emerging variant remains a threat, hence we opine that Covid-19 related cost will still be a drag moving forward. Nestle has been agile in introducing more new products to drive demand (Harvest Gourmet, Nescafe Kopitiam series and various community engagements). However, we opine larger macro factors such as steeper raw material costs, higher freight costs and tepid export sales are expected to be a bane for the group. Maintain SELL call with unchanged TP of RM107.25 based on DDM valuation methodology.

Below Are Key Takeaways From Nestle’s 2Q21 Results Briefing.

Capex plan still intact. Nestle has allocated RM300m capex in FY21 (FY20: RM295m) to ramp up production capacities and efficiency upgrades in several factories. We gather the majority of the portion is dedicated to its Maggi factory in Batu Tiga following the full capacity utilisation driven by robust demand across Maggi branded SKUs (noodles, seasoning paste, etc). The capex allocation remains intact, albeit with slow deployment (28% utilized as at June 2021) on the back of construction restrictions. However, with the permission for construction activities to resume, Nestle expects this to ramp up.

Seizing the opportunity with product innovation. With the soft OOH channel following various restrictions, Nestle has been agile in introducing more innovative new products to drive demand. This is evident with off-trade channels sales boosted by the launch of new products which include introduction of dairy-free versions of Milo and Nescafe, Lively Tea range, Kit Kat blocks and Harvest Gourmet.

Covid-19 related expenses to linger on. The group will continue to prioritize safety and supply continuity by adhering to strict SOPs and conducting daily antigen screenings. Despite the encouraging vaccination rate, the volatile external factor with new emerging variant remains a threat, hence we opine that Covid-19 related cost will still be a drag moving forward.

Price increases a matter of last resort. The volatility of commodity prices will be offset by initiative on internal savings and hedging policy put in place. Despite higher commodity costs and tepid export sales, we do not expect Nestle to raise shelf prices, particularly given the weak consumer sentiment. Being the crucial brand name across Malaysian households, Nestle remains mindful in keeping the affordability of its products. Additionally, appreciation of USD against RM adds to the risk as 50% of its raw materials are denominated in USD.

Outlook. We expect the introduction of new innovative product offerings and various community engagements in the light of Milo Contest and Maggi Bubur Lambuk for front liner to ignite consumer interests. However, we opine the larger macro factors such as steeper raw material costs, higher freight costs and tepid export sales are expected to be a bane for the group.

Forecast. Unchanged.

Maintain SELL; TP RM107.25 based on an unchanged DDM (r: 6.6%, TG: 3.5%). We continue to believe Nestle trades at an unreasonably high valuation level of 54.0x FY21 EPS and yielding an unattractive 1.8%. By comparison, its holding-co in Switzerland trades at a cheaper 26.9x FY21 EPS while its sister-co in Nigeria trades at 24.1x FY21 EPS.

Source: Hong Leong Investment Bank Research - 26 Aug 2021