1Q19 Net Profit of RM11.0m (-38% YoY, -32% QoQ) came in below our/consensus expectations at 11%/12% of full-year estimates due to the lower-than-expected sales. Although 1Q is generally the weakest quarter, the impact from the 14th general election uncertainty was greater than expected; thus, we cut our FY19E/FY20E NP by 14%/15%. Subsequently, we cut our TP to RM5.15 from RM6.00. Nevertheless, we believe distributors will be pushing sales for the forthcoming quarter with the various marketing strategies in place. Maintain OP.

1Q19 below expectations. 1Q19 Net Profit of RM11m (-38% YoY, -32% QoQ) came in below our/consensus expectations at 11%/12% of full-year estimates due to lower-than-expected sales. Although 1Q is generally the weakest quarter (comprising 16% to 18% of profit), the impact of the 14th general election uncertainty was greater than expected. No dividend was declared for the quarter, as expected.

Results Highlights, 1Q19 net profit plunged 38% YoY and 32% QoQ mainly due to lower revenue (-36% YoY, -28% QoQ) from the weak contribution by MLM division (-43% YoY, -27% QoQ), attributed to: (i) cautious distributors spending with the uncertainties in new government regulation, which led to stagnant distributors’ growth for the quarter, and (ii) slowdown in business activities during the fasting month and Hari Raya festive season holiday. Furthermore, Retail division (-6% YoY, - 44% QoQ) was also affected by such uncertainty, but was cushioned by better Wholesale division (+4% YoY, -20% QoQ) sales in patented medicine. Subsequently, the 1Q19 NP margin contracted to 13.7%, lowered by 0.6ppt from 14.3% in 1Q18 and by 1.0ppt from 14.7% in 4Q18 owing to pre-zero-rated GST 6% rebate promotion on sales carried out in May 2018.

Outlook. Management noted that they foresee higher sales in the next quarter arising from the various marketing strategies in place. The group expects its Indonesian MLM market to break even this year, but is withholding its Vietnam expansion due to weak market condition. The newly introduced “Infinence” brand beauty and lifestyle-related range of products are the new market segments being penetrated by the MLM division. For the Wholesale division, the group will continue to promote its premium Chinese medicated tonics and expand into non-alcoholic products to further penetrate the younger consumers market as well as to continue expanding its neighbourhood medical halls network. The half yearly members’ sales campaign will be carried out for the Retail division. Additionally, on the implementation of the new SST, the group has yet to determine the impact of this new tax regime and is currently negotiating with its suppliers about absorbing some of the new SST.

Cut FY19-20E NP by 14-15%. We cut our FY19E and FY20E Net Profit by 14% and 15% to reflect the lower-than-expected sales.

As such, we cut our target price to RM5.15, from RM6.00 previously, based on an unchanged 17x FY19E EPS implying +1.0SD above 5-year forward historical mean. Nevertheless, we believe that distributors will be pushing sales in the forthcoming quarter with the various marketing strategies in place. Maintain OUTPERFORM. 

We like HAIO for its; (i) strong earnings support over the next two years boosted by double-digit margin from high-margin products under its MLM network and leading Chinese medicine retail shops (under its other business), (ii) continuous growth in distributors base (currently at c.160k), and (iii) distributors expansion to regional market for larger sales volume. Risks to our call include: (i) lower-than-expected sales, and (ii) higher- than-expected operating expenses.

Source: Kenanga Research - 27 Sept 2018