We do not expect British American Tobacco’s (BAT) earnings outlook to be adversely impacted by the SST’s reintroduction. The price hike’s quantum should be on the lower end of the scale (2%- 23%/RM0.20-RM3.20 historically), after three successive years of stable prices. We maintain our forecasts and BUY recommendation with an unchanged CY19E DDM-derived TP of RM43.10, envisaging a strong enforcement crackdown on the illicit cigarettes trade to spur BAT’s earnings revival.

Price Hike Manageable This Time Around

Following the SST on cigarettes gazetted at 10%/6% for sales tax and services tax respectively, BAT and JTI have announced plans to raise prices for its cigarette brands. While a quantum was not provided, retail cigarette prices would have to increase by approximately RM0.50/pack on a blended basis in order to maintain margins, based on our estimates. A hike of that scale would be manageable and likely not upset the existing consumer base, in our view, as compared to historical price increments when the illicit market stayed stagnant, preceding the excise shock period over 2014-2016 where a pack of Dunhill leapt from RM12 to RM17.

Illicit Trade Clampdown Remains the Key for BAT

Although the illicit cigarettes market still stands at an all-time and world’s highest of 63%, we reiterate our view that the black market has already plateaued (at 63% since 4QFY17). We believe the legal tobacco industry is primed for a revival in earnings under the Pakatan-led administration, which is both fiscally and politically motivated to see through a massive clampdown on the illicit trade and recoup billions of tax leakages. Potential excise duty shocks arising from the upcoming Budget 2019 on Nov 2 are less likely to transpire, in our view, while the illicit market remains unaddressed.

Maintain BUY

As we await updates on the price revisions, we maintain our earnings forecasts and reiterate our BUY call on BAT, with an unchanged CY19E DDM-derived TP of RM43.10. Downside risks: i) weak enforcement initiatives; and ii) further excise duty shocks.

Source: Affin Hwang Research - 3 Sept 2018