9M16 PATAMI of RM46.4m (-32% YoY) came in below expectations at 58% and 61% of our and market consensus full-year forecasts. The negative variance was due to higherthan-expected operating expenses and lower-than-expected volume sales. Hence, we downgrade both our FY16E and FY17E net profits by 12% to take into account the higherthan-expected operating expenses and lower-than-expected volume sales. Correspondingly, our target price is reduced from RM5.57 to RM4.92 based on an unchanged 16.5x FY17E revised EPS. Downgrade from MARKET PERFORM to UNDERPERFROM.

Result Highlights. QoQ, 3Q16 revenue fell 3% to RM515m due to lower demand from Government hospitals and reduced contribution from the Group’s Indonesian operations. Correspondingly, PBT fell 7% to RM19.9m due to higher operating costs from promotional activities, further exacerbated by higher amortization of PHIS. This brings 3Q16 PATAMI to RM13.1m (-13% QoQ) exacerbated by a higher effective tax rate of 36% compared to 27% in 2Q16. This quarter marked the fourth consecutive quarterly earnings disappointment. In view of the ongoing negotiations to finalise the terms and conditions for the extension of the concession, the Group has revised the remaining estimated useful life of the expenses incurred for the rights to supply under the Concession Agreement from 4 years to 14 years. A third single-tier interim DPS of 4.0 sen was declared, bringing 9M16 DPS to 13.0 sen which is within our expectation.

YoY, 9M16 top line rose 6% mainly due to the group’s Indonesian operations. However, 9M16 PATAMI fell 32% no thanks to: (i) higher expenses from promotional activities and research and development, (ii) higher amortisation of the PHIS system, and (iii) higher effective tax rate of 31% compared to 23% in 9M15. Overall 9M16 profitability was mainly dragged down by the logistics and distribution division which recorded a loss before tax of RM1.0m compared to a PBT of RM9.8m in 9M15 due to higher expenses and amortisation as mentioned above. This brings overall 9M16 PBT margin to 4% compared to 6% in 9M15.

Outlook. We expect earnings to be lukewarm in subsequent quarters as well in anticipation of the slower-than-expected general economic growth. Additionally, the roll-out of PHIS is expected to continue to dampen bottom line over the short-term. Over the longer-term, we expect its manufacturing division to propel earnings. The group aims to add about 200 new products over the next 10 years to its existing portfolio of around 500 products. This should boost demand for its products and lift earnings.

Downgrade our FY16E and FY17E net profits. We downgrade both our FY16E and FY17E net profits estimates by 12% to take into account the higher-than-expected operating cost and lower-than-expected volume sales.

Downgrade to UNDERPERFORM from MARKET PERFORM. Correspondingly, we cut our TP from RM5.57 to RM4.92 based on an unchanged 16.5x and the revised FY17E EPS.

Source: Kenanga Research - 22 Nov 2016