Following a meeting with management, we came away feeling positive on the group’s medium-term outlook. Amidst the rationalisation of sales portfolios and tighter A&P spend, the group appear poised to benefit from higher profitability domestically, albeit on lower sales. Sales taxes are expected to be passed down to consumers. On the other hand, flattish exports could be seen as a positive given the shrinking MENA market. Maintain OUTPERFORM and TP of RM1.90.

Lower domestic sales but higher returns. Recall that in the recent 1Q19 results, local sales registered lower at RM38.2m (-34% YoY). While this could have been due to front loading in 4Q18 ahead of a price hike in April 2018, it could also be attributed to the implementation of tighter sales procedures. The latter was intended to ensure the protection of margins, which translated into lower sales order fulfilment for certain distributors. During this period, operating expenses were also lower from cut backs on marketing activities and tighter promotional spending, which is also part of the group’s restructuring exercise. The abovementioned, concurrent with flattish export sales, led to a core net earnings of RM8.6m (+c.120% YoY, adjusting for impairments and forex gains).

Exports in the rough. The RM51.1m export sales in 1Q19 results accounted for c.55% of group sales during the period. We view this favourably as it is likely supported by higher volume transactions, given lower average forex rates (est. 1Q18: RM4.33/USD, 1Q19: RM3.95/USD, source: Bloomberg). Additionally, management had previously described a decline in the MENA market size due to poorer spending on mid-year seasonality and geo-political factors. Hence, we laud the flattish sales as it indicated that the group was able to expand its market share despite adverse conditions.

Going forward, while the group is trimming marketing spend, it will continue to implement selective strategies to gain traction on its key products (i.e. product repackaging, introducing new variants) which could bolster local demand. However, with the implementation of SST, management described that it would be passing down the new tax burden to consumers, which may undermine the group’s sales momentum. The indicative taxes are 5% for coffee and 10% for energy drinks.

Nonetheless, results could be supported by better margins regained from comparatively lighter production costs as compared to FY18 on the back of: (i) better hedged positions, and (ii) overall easing commodity trends. Further, recall that the group is in the midst of implementing further structural improvements to optimise operating expenses and minimising wastages.

Post-visit, we remain reassured by the group’s medium-term prospects as poorer top-line could be compensated by a significantly more profitable environment. While the group was previously bogged down by several missteps, we believe the recent results demonstrated that the group is on track to regain its fundamental roots to sustain against challenging local and foreign headwinds. We maintain our FY19E/FY20E assumptions as we believe the abovementioned merits have been sufficiently accounted for.

Maintain OUTPERFORM and TP of RM1.90. Our TP is based on an unchanged 18.0x FY20E PER, in-line with the stock’s -1SD over its 3-year mean. Aside from its turnaround from an unfavourable operating environment, the stock also provides solid dividend yields of 5.0%/6.3% for FY19/FY20.

Risks to our call include: (i) lower-than-expected sales, (ii) higher-than- expected commodity and marketing costs, and (iii) lower-than-expected dividend payments.

Source: Kenanga Research - 5 Sept 2018