FY20 CNP of RM260.7m (-28% YoY) came in above our and consensus’ forecast, thanks to stronger-than-expected volumes in 4Q. Moving ahead, its outlook will continue to be clouded by persistently high illicit tobacco and vaping market shares, and any meaningful earnings recovery would only materialise with a sustained clampdown on the illicit trades. Post results, we maintain our UNDERPERFORM rating albeit with a higher TP of RM11.45 after a slight earnings bump.

Above expectations. FY20 core net profit (CNP) of RM260.7m (after adjusting for RM18.8m restructuring expenses) came in above our and consensus’ full-year estimates at 107% and 108%, respectively. The positive deviation is largely driven by the stronger-than-expected product volumes in 4Q (+3% QoQ) which were underpinned by sustained demand for Dunhill, Rothmans and KYO. As a result of the stronger earnings, the full-year declared dividend of 83.0 sen (4Q: 27.0 sen) also exceeded our expectation.

Overall weaker results. YoY, FY20 revenue declined by 8%, mainly dragged by: (i) persistently high illicit tobacco and vaping market volume at 70%, coupled with (ii) decline in product volume (-8%) owed to the shift in demand towards illegal trades, as well as weaker duty- free sales amidst the Covid-19 travel restrictions. Consequently, CNP fell by 28%, as core EBIT margin (-3.9ppt) remained pressured by down-trading activities to lower-margin VFM products (i.e. Rothmans and KYO).

Continued QoQ improvements. On the force of stronger volumes (+3%) which outperformed the subdued market volume growth (+0.2%), 4QFY20 revenue rose 5%. The volume growth is attributable to sustained performances from its Premium segment (i.e. Dunhill) and stronger VFM segment, which were boosted by Rothmans and the newly included KYO (launched in June 2020), prompting CNP to register a growth of 16%.

Structural issues remain in the spotlight. In spite of the Budget 2021 being a positive one for BAT with more stringent measures imposed to curb rampant contraband cigarettes, we believe the key matter lies in execution and any meaningful earnings recovery for the stock would only materialise with a sustained clampdown on the illegal cigarettes. Moving forward, we reiterate our view that the group’s outlook should continue to be clouded by the rampant illicit tobacco issue, which may be further exacerbated by the weaker purchasing power caused by a disrupted economy, at least in the near-term.

Post-results, we nudged our FY21E earnings upwards by 1.3% on account of more generous assumption for product volumes growth while introducing new FY22E earning forecast.

Maintain UNDERPERFORM with higher TP of RM11.45 (from RM11.05) following the earnings bump. Our TP is based on an unchanged valuation of FY21E PER of 13.0x (closely in-line with -1SD over the 3-year mean). Despite the stock offering a fair dividend yield of c.6%, the lack of visible improvements in the operating environment remains to cloud the group’s outlook. Risks to our call include: (i) higher-than-expected dividend pay-out and (ii) stronger-than-expected product volume.

Source: Kenanga Research - 11 Feb 2021