NESTLE anticipates volatile food commodity prices ahead, which could result in incremental price hikes for selective products. However, it is confident of robust sales due to the strong value propositions of its products such as great taste, superior quality, and high nutritional value. We trim our FY23-24F earnings by 2- 4%, tweak our TP down by 1% to RM121.18 (from RM122.07) and maintain our UNDERPERFORM call.

We came away from NESTLE’s post-results briefing yesterday with mixed feeling on its prospects. The key takeaways are as follows:

1. NESTLE sensed that consumer spending has remained reasonably steady, and taking comfort that the inflationary pressures worldwide have been gradually contained. Meanwhile, despite several price hikes since end-2021, it has yet to fully pass on the higher cost to consumers, to defend its top line. It is confident of robust sales for its products due to their flavour that appeals to local taste buds, superior quality, and high nutritional value. Also helping the top line growth, are the economy normalisation and return of foreign tourists and travellers.

2. NESTLE anticipates volatility in food commodity prices, even though prices of milk solid and palm oil have eased in recent weeks and may soften further in 2HCY23. As the prices are unlikely to retrace to pre-Covid levels, NESTLE may have to raise prices again but the quantum will be minor and only on selective products.

3. NESTLE sees a new cycle of investments ahead. For the next three years, it sees new investments of c.RM1b as it expands and upgrades capacity. As at FY22 capex was at cRM300m, and we expect approximately the same amount for the next 2-3 years.

4. Its borrowings saw a 3-fold jump in FY22 mainly for working capital. As commodities prices and supplies are looking volatile, it expects high borrowings ahead.

5. NESTLE maintained it’s on the ESG track. For FY22, it reduced 300k tonnes of CO2 and planted half-a-million trees. It also reduced 1k tonnes of virgin plastic and collected 4k tonnes of plastics, achieved RSPO certification for 99% of its palm oil and palm oil products, and reduced water usage by 68,000 cubic meters in its factories.

A new acquisition. Separately, NESTLE is acquiring a 100% stake in Wyeth Nutrition (Malaysia) (Wyeth Nutrition) from Wyeth (Hong Kong) for RM165m cash. Wyeth Nutrition distributes premium infant and adult nutritional products. While the acquisition will expand NESTLE’s product offerings and presence in the nutritional product segment, it is rather negligible as compared with NESTLE’s market size of RM32b. We estimate that the acquisition will only enhance NESTLE’s earnings by 1%.

Forecasts. We trim our FY23-24F earnings forecasts by 2-4% to reflect higher depreciation expenses (that is unrelated to the latest proposed acquisition). Consequently. DCF-derived TP is reduced by 1% to RM121.18 (based on WACC of 4.9% and TG of 2%) from RM122.07. There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

We remain cautious on NESTLE due to the following reasons: (i) despite its products being staple food items, recent experience has shown its difficulty to pass on higher input cost, resulting in margin erosion, (ii) while commodity prices have generally softened, there is a risk of rebound due to China’s reopening, the lingering supply-chain disruptions and the prolonged Russia-Ukraine war, and (iii) sustained high inflation may eventually drive consumers to down trading, i.e. opting for cheaper brands or alternatives. Maintain UNDERPERFORM

Risks to our call include: (i) significant fall in commodities prices, (ii) a stronger MYR resulting in lower cost of imported raw materials, and (iii) consumers switching to food products of higher quality as purchasing power rises on easing inflation.

Source: Kenanga Research - 23 Feb 2023