Result

• Hai-O reported a net profit of RM7.7m for its 1QFY20, declining by 22.7% qoq and 29.6% yoy. Meanwhile, the group recorded quarterly revenue of RM66.1m, which was down 5.5% qoq and 17.5% yoy.

• Result below expectations. 1QFY20 net profit is below our and consensus expectation, accounting for 16.0%/16.8% of our/consensus full year estimates. We deem the result is below our expectation although 1Q is seasonally weaker (1Q traditionally accounts for c.20% of actual full year net earnings).

Comment

• Lackluster QoQ earnings. The Group recorded a lower revenue, -5.5% qoq mainly due to lower sales generated from MLM division (i.e. slow-down of distributors’ business activities during the Ramadan fasting month and Hari Raya festive season) which offset higher sales from wholesale division (i.e. higher sales of Chinese medicated tonic, patented medicine and bird nest products). Also, the Group recorded a lower PBT/PBT margin of -26.5%/-4.4ppts, mainly due to reduction in A&P subsidy incomes.

• Lower YoY earnings. Again, Hai-O recognized lower revenue as a result of weaker sales from MLM division (i.e. slowdown in new member recruitment and member renewal) which offset higher revenue from wholesale division (i.e. higher sale from Chinese medicated tonic and vintage tea). Furthermore, the Group incurred higher cost (i.e. export of bird nest products to China) from wholesale division, resulting in lower PBT/PBT margin of -29.4%/- 2.6ppts.

• MLM division – Unfavorable outlook. The members continued to cut back spending in view of weak market sentiment while the distributors have also slowed down activities since last financial year. As such, the division is actively retaining and recruiting new members to increase sales. Hence, we foresee that MLM division will continue perform poorly for FY20F as compared to FY19.

• Wholesale division – continues focusing on core products. The Wholesale division will continue focusing on its core products (i.e. Chinese medicated tonic and other health and wellness products) due to higher sales achieved from its core products. On top of that, the division will continue to secure agencies for more food and beverage products.

• Retail division – more sales campaign ahead. Looking forward, the Group will continue to launch extensive sales

promotion as the division received good response from its loyalty friendship members. Therefore, we believe that the retail division will achieve a better revenue for the 2QFY20 as compare to 1QFY20.

• Unattractive outlook ahead. We foresee that Hai-O’s business performance will not recover in the immediate term and might be further bogged down by MLM division on the back of lower new member recruitment coupled with lower member renewal.

• Risks include: 1) Higher-than-expected operating expenses (i.e. higher marketing and branding expenses) and 2) Lower-than-expected domestic spending due to higher cost of living.

Earnings Outlook/Revision

• We adjust downwards our earnings forecasts for FY20F and FY21F by 14.4% and 4.8%% to RM41.7m and RM47.4m respectively, after lowering our sales assumptions for MLM division to better reflect its lower new member recruitment and lower PBT margin pursuant to higher marketing and branding expenses.

Valuation & Recommendation

• Downgrade to SELL from HOLD with a lower target price of RM2.20 (previous target price: RM2.24) following our earnings cut and recent rally in share price against our target price. Our revised target price is now based on P/E multiple of 15.8x FY20F EPS (from 13.5x), which is at its 3- year historical mean P/E.

• Looking forward, we also expect the Group to declare a lower dividend per share of 11sen/share in FY20F vs. 13sen/share in FY19, which translates into a dividend yield of 4.1% based on current share price

Source: JF Apex Securities Research - 27 Sept 2019