Kenanga Research & Investment

SDS Group - Neighbourhood Baker Goes Places

Publish date: Wed, 07 Dec 2022, 09:15 AM

We recommend ADD for SDS with an FV of RM1.15. SDS manufactures bakery and confectionery products for distribution via wholesale and retail channels. We project a net profit CAGR of 82% over two years, driven by: (i) improving distribution coverage, (ii) competitive pricing and an effective marketing strategy, (iii) the reopening of Malaysia-Singapore border, and (iv) retail outlet expansion.

Strengthening distribution coverage across Peninsular Malaysia. The group's distribution of wholesale products segment makes up 67% of revenue with coverage in most city areas. SDS has been aggressively expanding its distribution centre and fleet (at least 10 new trucks on top of 269 existing ones) across the northern states and East Coast regions (namely Kedah and Terengganu) which is untapped market. We anticipate greater penetration in this region to boost segmental revenues by 35%/20% in FY23/FY24 from its pricing, as explained below.

Smaller price hikes vs. competitors. We understand that SDS's competitors have been raising prices since Nov 2021 (by as much as 20% as of end-Aug 2022) due to higher input and distribution costs. However, SDS only hiked prices on average of c.8% for selective products in July 2022 as it has room to absorb rising cost, having embarked on aggressive cost rationalisation over the last one year. This has given it much price advantage over its competitors, making its products more appealing to the B40 group that are more price sensitive especially under the current high inflationary climate. Naturally, this will translate to market share gains for SDS.

That said, we anticipate SDS to raise prices at some point to grow its margins. We have assumed in our forecast higher EBIT margins of 10%/11% in FY23/FY24 from 6.6% in FY22A.

Resilient demand for baked goods. The reopening of the economy and the return of the student and office crowds has boosted the demand for convenient on-the-go food items such as breads and buns. It is expanding its market reach with collaboration with big retailers such as AEON, Giant, NSK. Ninso and Ecoshop as well as petrol station operators.

Robust growing in retail segments. The group currently has a strong store base of 34 bakeries/café mostly in Johor. We gathered the SDS name has so far gathered positive brand equity, possibly thanks to its selectively strategic establishments in high footfall areas. In terms of store expansion, the group seeks to build a greater presence in the Klang Valley and Johor Bahru with 3-4 new outlets on the way. This segment was dampened by previous movement restrictions but is likely to recover faster on the resumption of general activities. Meanwhile, we believe that the border reopening between Malaysia and Singapore will stimulate traffic, leading to increased food consumption. We anticipate a positive translation to same store sales growth of 40%/10% in FY23/FY24 (vs FY21/FY22 at - 22%/+9%).

Building brand awareness and market presence. It is in the midst of applying for franchise licensing from the Ministry of Domestic Trade and Consumer Affairs. We believe franchising will provide it with another growth avenue, boosting the number of its F&B outlets (without straining its balance sheet) and strengthen its brand across Malaysia.

Moving forward, we project FY23F/FY24F core PATAMI of RM28.1m and RM35.7m (implying growth of 165% and 25%) respectively. The key catalyst primarily comes from the expansion in both sales channel in wholesale distribution and number of new outlets across Klang Valley. ADD with a fair value of RM1.15, premised on a 13x FY23F EPS, which is 20% discount to its domestic staple food producer peers’ one-year PER mean of 16.2x. We believe this is justified by the stock’s relatively smaller market capitalization and lack of dividend policy. Nevertheless, the valuation is considered inexpensive, reflective of high earnings growth potential compared to peers’ consensus projections of 12% in FY23. A ROE of c.28% also outweighs peers’ mid-teens marking.

There is no change to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

Source: Kenanga Research - 7 Dec 2022

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