Nestle’s 9M17 core net profit declined by 8% yoy to RM502m. This was below our and consensus expectation, accounting for 72% and 75% of full-year forecasts respectively. Although top line grew by 4% yoy, on the back of domestic and export sales, earnings was dragged down by higher raw material prices, despite management’s cost opex saving initiatives. Maintain HOLD with unchanged TP of RM84.24.

9M17 Results Below Expectations

Nestle recorded a 4.3% yoy increase in 9M17 revenue to RM4bn driven by 4% and 5.5% yoy growth in domestic and export sales respectively. We believe this is due to Nestle’s effective marketing and successful new product launches such as Nutri-up, MAT KOOL Fruity Bug, Maggi Hot Mealz and others. However, 9M17 core net profit declined by 8.3% yoy to RM502m mainly because of higher raw material prices (sugar, milk powder, coffee beans) and a weaker Ringgit, dragging 3Q17 gross margin to 34.1% (-2.5ppts qoq and the weakest quarter since 4Q14). We view the results as below expectations, accounting for only 72%-75% of full-year forecasts (9M results typically accounts for approximately 80% of full-year earnings). The disappointment was due to higher raw material costs. DPS of 70 sen was declared (vs. 3Q16: 70 sen).

9M17 EBIT Margin Contracts, But Worst Could be Over

9M17’s EBIT margin contracted by 1.3ppts yoy to 16.7% due to unfavourable raw material prices, which saw a 10% yoy increase in COGS. Management’s cost saving initiatives had marginally reduced opex by 4.4% yoy. As 3Q17’s gross margin was weaker both qoq and yoy in the midst of easing commodity prices recently, we suspect this could be due to Nestle’s higher hedging cost. We expect margins to improve in the near term, on the back of favourable raw material prices and a stronger RM.

Maintain HOLD, With Unchanged Target Price of RM84.24

We lower FY17 EPS by 5% to reflect the weaker gross margin while leaving FY18-19’s largely unchanged. We expect Malaysia’s private consumption in 2018 to be robust driven by improving consumer sentiment and special payments to government servants in 1H18, benefitting household F&B players such as Nestle. We maintain our HOLD rating with a 12-month DDM-based TP of RM84.24. Downside risks: i) slower-thanexpected consumer spending and ii) a spike in raw material costs. Upside risks: less competitive environment from other F&B players.

Source: Affin Hwang Research - 8 Nov 2017