The group may experience a weaker quarter ahead with both its domestic and export markets impacted by the Covid-19 movement restrictions. Nonetheless, the weakness is likely to be short-lived as gradual recovery is expected post lock down. While we still like the group for its continuous improvement in operational efficiencies and dividend yield of c.5%, these positives may have been largely priced in. Downgrade to MARKET PERFORM with a revised TP of RM2.45.

Expecting a weaker 1QFY21 ahead… We gathered that the group is likely to experience a lacklustre 1QFY21 on (i) softer domestic contribution due to more stringent credit terms for distributors and lower footfall amidst the pandemic outbreak coupled with (ii) weaker export sales to the MENA region, no thanks to the imposed sugar tax of 50% and restricted distributor activities amidst the pandemic lockdown.

…but recovery from 2Q onwards? Nonetheless, gradual recovery could be anticipated possibly from 2Q onwards, as the aforementioned markets are expected to follow the footsteps of its other export markets (i.e. Hong Kong and China), which have experienced demand recovery once restrictions are lifted. Furthermore, we believe the group’s newly launched product in the MENA region - “Ali Café Italian Roast” which is priced at a more affordable pre-sugar tax level, would be able to help cushion any loss in demand due to the fully-passed on sugar tax.

Venturing into more untapped sub-segments. Moving into a new FY, the group has plans to expand its brand presence across different sub segments (i.e. Economical 3-in-1 coffee, International coffee, Ready-To Drink coffee) through the introduction of more innovative offerings, which could drive demand growth by tapping into the shifting consumer trends. Therefore, in order to cater for the additional capacity requirements moving forward, the group is planning for the expansion of a new factory at its current Johor facility (which would double the production capacity) with an estimated capex of c.RM35m and a completion timeline of around two years.

Margins to remain steady. While the aforesaid new product launches may result in higher A&P spending and poorer product mix (due to lower margin Ali Café Italian Roast and Economical 3-in-1 coffee), we opine that margins should remain relatively stable moving forward. This is riding on back of: (i) more favourable raw material costs (i.e. coffee and creamer), as well as (ii) greater operational efficiencies as the group continues to drive rationalisation exercises for its distributorships, sales force and factory operations. Moreover, the group is still committed to achieving its long-term PAT margin target of 15% (versus FY20 PAT margin of c.13%).

Post-briefing, we pumped our FY21E and FY22E earnings slightly upwards by 2% and 3%, respectively, to account for stronger post lock down recovery.

Downgrade to MARKET PERFORM with revised TP of RM2.45 (from RM2.35). Our TP is based on an unchanged FY21E PER of 20.0x (in line with +1SD over its 3-year mean).

All-in, we still favour the group for its exciting pipeline of new product launches, continuous improvement in operational efficiencies and decent dividend yield of c.5%. Nonetheless, the aforesaid merits may have been largely priced in at this juncture, limiting near-term upside. Risks to our call include: (i) higher/lower-than-expected sales, (ii) higher/lower-than expected commodity and marketing costs, and (iii) higher/lower-than expected dividend payments.

Source: Kenanga Research - 10 Jun 2020