BAT : Tepid sales outlook

Lower combustible cigarettes sales. We believe BAT’s sales will continue to be weighed down by the burgeoning prevalence of vapes. To recap, BAT recorded a 13.4% decline in sales in FY23 due to lower combustible cigarette sales following the growing popularity of vapes post the passage of the tobacco bill. While the group has taken measures to combat this by launching its vape brand (VUSE), the sales void continues to widen due to the fragmented nature of the vape market. Unlike the traditional combustible cigarette market, which is dominated by only three players in Malaysia, the vape market is highly fragmented with over 100 brands and more than 1,500 SKUs. The expansion of the vape market at the expense of traditional cigarette market share has led to a dispersion of sales among multiple vape brand owners, thereby putting pressure on BAT's sales performance.

Lower margin. Compounding the headwinds of lower sales, the group’s margin is also under pressure amid the ongoing down-trading trend and the shifting impact of vape products. We highlight that the margin of vape products is similar to that in the Value-for-Money segment of combustible cigarettes, which is perceived to have the lowest margin among all segments. In our view, any shift of customers from Premium and AP brands to VUSE products will lead to margin erosion. This phenomenon was evident in the latest 1QFY24 earnings, where the group’s GP margin dropped by 2.6 ppt QoQ and 1.7 ppt YoY, with lower market share registered in the Premium and AP segments. Considering that Premium brands, such as Dunhill, make up a large chunk of the group’s sales, this trend could continue to weigh on the group’s margin going forward.

Sell with a TP of RM6.47. Given the lack of robust earnings streams from new segments to fill the void left by the combustible cigarette segment, we opine that BAT’s earnings outlook remains challenging. We maintain a Sell rating on BAT with a TP of RM6.47, indicating downside of 21.8%.

Broke below its uptrend channel. BAT has broken its uptrend channel, signaling a potential trend reversal alongside with deteriorating indicators. A successful breakdown below RM8.20 could dampentoward RM8.00-7.95-7.73. Cut loss at RM8.65.

Short selling range: RM8.28-8.35-8.44

Downside targets: RM8.00-7.73-7.33

Cut loss: RM8.65

Source: Hong Leong Investment Bank Research - 19 Jul 2024