· Strong foothold in East Malaysia. Poised to float its shares in the Bursa ACE Market on 25th of November 2015, Kim Teck Cheong Consolidated (KTC) is principally engaged in providing market access and coverage of CPG (consumer packaged goods) in East Malaysia (EM) while it has also recently embarked on the bakery manufacturing business in February 2014. KTC is one of the largest distributors in EM region and currently distributes c.10,348 SKUs (stock keeping units) for 36 brand owners through its 18 distribution centres. Net profit grew at 3- year (FY12 to FY15 CAGR) of 21.9% thanks to the expansion in customer base as well as margin expansion driven by economies of scale.

· Resilient product mix portfolio. Based on its FY15 figures, F&B products were the biggest contributor to its gross profit (43%), followed by personal care products (33%), manufacturing of bakery products (7%) and household products at 5%. We think that the favourable product mix is defensive and resilient against the economy slowdown as both F&B and personal care products are necessities, which are further aided by the strong brand image and profile of KTC’s customers. Thus, we think that KTC may be one of the names to look out for in the consumer space, particularly in the current situation where consumer sentiment is weak.

· Raising the ante. The Group has earmarked RM14.0m or 65.7% of its IPO proceeds for expansion both in the distribution business as well as the bakery manufacturing division. KTC is aiming to penetrate into the Sarawak market by acquiring warehousing facilities in Sibu, Miri and Kuching while it is also looking to strengthen its presence in key Sabah markets by constructing a new warehouse in order to cater for broader customer base. The Group also plans to add three (3) production lines in its existing bakery plant in Sabah as the sole production line is currently running at peak utilisation rate. While the expansion plan is key to provide the impetus for earnings growth, we think it also signifies the Group’s optimism and confidence on its business as well as market potential.

· OBM and manufacturing to protect margin. FY15 gross margin has expanded to 13.7% from 13.0% in FY12, which we deem impressive considering the huge revenue growth of 50% from RM200.3m in FY12 to RM299.9m in FY15 as established brand owners generally have more bargaining power by giving sizeable volume to distributors. We understand that the feat was achieved thanks to its OBM (original brand manufacturer) brands in which the Group markets and distributes inhouse products through the Creamos brand (bakery products), Orie (frozen and dry food) and Bamble (personal care products). Moving forward, we think that the additional bakery production lines as well as the OBM initiative will be able to protect its earnings margin from the downside.

· Trading Buy with Fair Value of RM0.240 (60% upside). We derived our FV by ascribing 11x PER to CY16E EPS, which represents c.13% discount from the industry peers’ average due to its smaller market capitalization. Should the stock prove able to trade on par to industry peers’ average of 12.6x PER, it could be valued at RM0.280. This is not entirely impossible given its penny stock status. Profitability wise, we project its net profit to grow 37.9% and 31.1%, respectively, in FY16E and FY17E, underpinned by the capacity-boosting expansion plans, its strong position in EM to garner more customers, as well as margin expansion due to economies of scale and initiatives in OBM. We also view KTC as a cheaper proxy to the consumer F&B sector which commands an average PER of 21.8x (F&B stocks under our coverage) due to its exposure in F&B products. Furthermore, worth noticing is that NTPM (NR; RM0.81), a personal care product manufacturer was pegged with a PER of 15.3x when it was featured under On Our Radar report back in September 2015.

· Key risk: (i) Weaker-than-expected consumer sentiment, (ii) Stronger-thanexpected competition, (iii.) Delay in expansion. 

Source: Kenanga Research - 23 Nov 2015