Period  3Q13 / 9M13

Actual vs. Expectations  The 9M13 net profit of RM634.4m was within expectations, at 75.8% of our full year forecast of RM836.9m and 76.6% of the consensus estimates (RM828.3m), respectively.

Dividends  A third interim NDPS of 68 sen was declared as expected, bringing the total to 134 sen, or 47% of our FY13E NDPS of 280 sen (4.7% dividend yield).

Key Results Highlights   QoQ, net profit improved by +4.0% in 3Q13 on the back of a slight +1.3% increase in revenue. This was driven by a stronger price mix following the June price increase of 30 sen/box of 20 cigarettes, which resulted in a +1.9ppt improvement in gross margins (from 32.5% in 2Q13 to 34.4% in 3Q13). However, the net effect was partially offset by lower contract manufacturing volumes (-10.8%) and higher operating expenses (+15.8%).

 YoY, BAT managed to eke out a +1.0% revenue growth despite the lower volumes on both the domestic and dutyfree segment (-1.9%) and the contract manufacturing segment (-14%). However, net profit surged by +18.1% YoY, owing to a +0.7ppt improvement in YoY gross margin (3Q12: 33.7%) as BAT benefited from two rounds of price increases (20 sen/box in Oct 2012 and 30 sen/box in June). Lower operating costs of -23.9% also led to the marked improvement in net margin (18.7% against 16.0% in 3Q12).

 YTD, BAT reported a 9M13 revenue growth rate of +4.7% which was attributed to the increase in contract manufacturing revenue (+95.8%). This helped offset the lower revenues from the domestic and duty-free segment (-1.8%). However, given the lower margins for the contract manufacturing segment, overall gross margins declined by 1.3ppt (from 34.5% in 9M12 to 33.1% in 9M13). Nevertheless, savings from the YTD operating expenses which were lower by 13% (-RM41m) led to net profit rising by 5.5%.

Outlook  BAT has achieved a YTD (August) 61.8% share of the market which represents a +0.9ppt YoY growth.  Although the Group registered healthy share growth, there had been a decline in legal market consumption (-5.7% YTD vs same period last year). The substantial RM1.50 price hike which came in response to a 14% increase in excise duty could further accelerate TIV declines.

 While illicit trades have shown some declines (33.6% in Mar-May compared to 34.5% in 2012), the improvement could be short-lived as consumers tend to seek out cheaper alternatives, which would further erode the legal TIV.

Change to Forecasts    We maintain our FY13E NP of RM836.9m and FY14E NP of RM899.9m respectively.

Rating We are maintaining our MARKET PERFORM rating given limited upside to our TP.

Valuation  Our valuation of BAT remains unchanged at RM63.00, which is based on a targeted PER of 20x on the FY14 EPS of 315.2 sen.

Risks to Our Call  A higher-than-expected increase in illicit trade, which would accelerate the shrinkage of the legal market TIV.

Source: Kenanga