Nestle recently had a ground-breaking ceremony for a new factory in Shah Alam situated adjacent to its existing factory. We were not surprised over the expansion plan but the planned capex of RM250m for the year is substantially above our previous estimates of RM120m to be used for several expansion phases.  We are positive as the capacity of its ready-to-drink (“RTD”) segment will be doubled with contributions from FY14 onwards. We reckon Nestle would have to increase its leverage, and its FY13E net gearing is likely to surge from 0.2x to 0.4x (as of 1Q13, it was in a net cash position). Nevertheless, the ratio remains within the comfort zone. As we are not able to accurately quantify the impact from the expansion, revenue estimates remain unchanged for now. However, due to higher financing cost, we are  fine-tuning our earnings estimates from RM544.4m-RM589.2m to RM543.3mRM588.6m, respectively for FY13-14E. No changes to  our TP of RM72.80, which is based on Fwd PER of 29.0x over FY14E EPS. On account of a 10.5% share price appreciation thanks to the post-GE rally, our TP only offers a 5.5% upside now and hence we reiterate our MARKET PERFORM call. 

Expanding the rapid growth segment. Based on a global market research – “Marketsandmarkets”, the global market for RTD tea and coffee will grow at an estimated CAGR of 10.9% from 2012 to 2017, driven especially by the AsiaPacific region. To jump on the bandwagon, Nestle plans sizable capex for this segment this year as they expects growth of 20% YoY for the next 5 to 10 years. We remain optimistic on Nestle due to its product innovation, marketing investments, and strong capacity expansion amidst growing demand.

Slightly lower earnings due to higher financing cost. We are not adjusting our revenue for this new capacity for now as we are not able to quantify the impact with some degree of certainty. However, based on our back of the envelope calculation, assuming 25% utilization rate for the new capacity in FY14, the estimated FY14E group revenue would be upgraded by 8.2%, resulting in a YoY revenue growth of 15.4% as compared to our previous growth of 7.4%. Nevertheless, we are fine-tuning our earnings estimates from RM544.4m-RM589.2m to RM543.3m-RM588.6m, respectively for FY13-14E to factor in higher interest expense incurred for the financing of the expansion (but there is no impact to our TP).

Fairly-valued. We believe investors have become more demanding in terms of yields since the bond market 10-year MGS reversed from its low of 3.05% in May-13 to 3.66% spurred by concerns over capital outflows. Nestle’s net dividend yield of 3.5% for FY14E may not satisfy growing investor appetite and results in a de-rating. A cross-checked with our DCF and DDM model revealed that the TPs are lowered by 7%-8% from RM74.50 and RM65.00 to RM68.70 and RM60.10, respectively. This is also pretty much in line with our earlier downgrade from +3 SD to +2 SD PER of c. 8.3%.

Source: Kenanga