NESTLE will not raise prices over the immediate term thanks to softening commodity prices. Meanwhile, it is confident that its top line momentum will sustain into 2HFY23 as consumer spending appears to be stable while new products aimed at local taste buds are also likely to boost sales. We maintain our earnings forecasts, TP of RM121.18 and UNDERPERFORM call.

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

1. NESTLE will not raise prices over the immediate term thanks to softening commodity prices. It guided for its margins to stabilise if not improve slightly in 2HFY23. Nonetheless, it will continue to keep a watchful eye on commodity prices on elevated geopolitical tensions and the potential onslaught of a strong El Nino.

2. NESTLE reiterated its view that domestic consumption will remain robust on the back of steady fundamentals and continued government initiatives. The demand for both home and out-of-home consumption appears to be healthy. Meanwhile, there is weakness in export sales due to high inflation. However, export sales should improve in 2024 assuming inflation is to gradually ease coupled with the introduction of various new products.

3. NESTLE will continue to aggressively roll out new products until 3QFY23. The recently-launched new products include Nescafe Coffee Kedah (with local coffee beans), Nestle Kit Kat Pink Ice Cream (tangy strawberry with strawberry cheesecake flavour coating), Nestle Kit Kat Wafer (with ketupat-stamped packaging), Maggi Mi Goreng Warisan Laksa (with bunga kantan taste) and Maggi Pedas Giler Cheezy Berapi (with cheese). These new products have been well-received by the market as they appeal to local taste buds. Made of local ingredients, they also command better margins. On a less encouraging note, its plant-based products have been slow in gaining traction.

4. NESTLE has entered into a strategic partnership with the government to promote modern agriculture. The key objectives of this partnership include: (i) to address food security by developing modern agricultural facilities and accelerating local farming, and (ii) promoting farming as a choice of profession for youths. Additionally, this project will also support NESTLE in cultivating local products and accelerating its innovation.

5. NESTLE reiterates that its ESG initiatives remain on track. For instance, it planted its millionth tree under Project ReLeaf in June 2023. Moving forward, an additional 1m trees are targeted to be planted by June 2024, whilst the balance 1m are expected in 2025.

Forecasts. We maintain our forecasts which have adequately reflected the above-mentioned trends. We also maintain our DCF-derived TP of RM121.18 (based on WACC of 4.9% and TG of 2%). There is no adjustment to our TP based on ESG given a 3-star rating as appraised by us (see Page 4).

No change to our cautious stance due to the following reasons: (i) Despite its products being staple food items, it faces difficulty in passing on higher input cost as shown by its recent experience which eroded margins, (ii) while commodity prices have generally softened, they could potentially rebound due to China’s reopening, lingering supply-chain disruptions given the prolonged Russia-Ukraine war, and upcoming period of extreme weather, and (iii) sustained high inflation may eventually drive consumers to down trade, i.e. opt for cheaper brands or alternatives. In addition to concerns over the loss of market share, we believe NESTLE has moral as well as ESG obligations not to excessively raise prices of its staple food products that make up the population’s daily dietary intake. Reiterate 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 and inflation eases.

Source: Kenanga Research - 31 Jul 2023