We maintain NEUTRAL on the sector, as the broader outlook remains steady with pockets of value emerging, especially after the recent dip in MRDIY (OP; TP: RM2.20). Fundamentally, the consumer space is also showing a gradual improving momentum, with Retail Group Malaysia (RGM) revising its CY24 retail sales growth forecast upwards to 3.9% (from 3.6%) and projecting a steady 4.0% growth for CY25. We believe this could be supported by a growing influx of international tourists, and rising disposable income driven by the >13% civil servant pay hike and minimum wage adjustments. Valuations for selective counters, particularly consumer staples such as F&N (OP; TP: RM36.30), appear relatively attractive, with room for re-rating as margins stabilize (see Exhibit 1). While cost pressures in labour and electricity persist, companies have taken measures to mitigate these impacts through productivity optimisation and solar energy adoption. That said, the higher costs appear to be somewhat priced in, offering opportunities for upside in key counters. Our sector top picks are F&N, MRDIY (which we upgrade in this note), and KAREX (OP; TP: RM1.12).

Retail sales rebound in 3QCY24; momentum builds for year-end growth. RGM reported a solid 3.8% YoY growth in retail sales in 3QCY24, led by the minimarket-and-convenience store subsector, exceeding the 3.6% target and significantly improving from the 0.6% YoY growth seen in 2QCY24. According to RGM, this was due to higher household spending on essential and non-essential goods, largely driven by rising retail prices, even in the absence of major festivals or holidays.

Looking ahead, RGM now projects retail sales to rise by 4.4% (up from the earlier forecast of 3.2%), underpinned by steady shopping traffic and early Chinese New Year shopping starting in late December. Reflecting this momentum, RGM has raised its full-year CY24 growth estimate to 3.9% (from 3.6%), with a steady growth of 4.0% expected in CY25. While rising living costs may persist, the sector is showing signs of resilience, offering selective opportunities for growth.

Valuation dynamics emerging in selective counters. We see that current valuations appear more attractive for selective counters, particularly within the consumer staples segment. While share prices for most discretionary counters under our coverage have already rallied following the announcement of a >13% civil servant salary hike in early May this year, staples still have room for potential catch-up. As highlighted in Exhibit 1, F&N stands out among our coverage with a clear correlation between net margins and PE. Notably, share prices for key counters like F&N have retreated by 10% since its results, more than double the estimated <5% impact warranted by BAU cost pressures. This points to potential upside as margins stabilize and valuations realign with fundamentals. We believe higher cost pressures are likely already priced into current valuations, setting the stage for a possible PE re-rating. This positions F&N as a possible key beneficiary of such valuation adjustments.

Cost challenges persist but manageable with mitigation efforts. We acknowledge persistent cost pressures faced by industry players, particularly in labour and electricity. The upcoming minimum wage hike to RM1.7K (from RM1.5K) effective Feb 2025 could be a double-edged sword, as it is likely to boost disposable income and support revenue growth while raising labour costs for certain companies. The potential extension of mandatory EPF contributions for non-Malaysian workers also poses a risk to staff costs. However, some companies have already implemented measures to optimise workforce productivity and integrate automation to manage labour costs more efficiently.

On the other hand, the impact of the recently proposed electricity tariff hike starting mid-2025 should be manageable, as many companies have been actively working on solar panel installations, which could partially offset long-term energy costs.

Moreover, the burden could be further alleviated if current surcharges above the base tariff are reduced or removed in the future, potentially resulting in a less significant net impact on operating costs than anticipated.

Tourism angle has more room to play out. Tourism presents an underappreciated growth potential for the sector, with 22.5m international tourist arrivals in the first 11 months of 2024, a 12% increase from the total of 20.1m recorded in 2023.

A further influx of international tourists is expected as we move into 2025, aided by greater connectivity through expanded international flights and favourable visa policies for key markets such as China and India. Additionally, the RM550m allocated under Budget 2025 for tourism promotion in preparation for Visit Malaysia Year 2026, adds a supportive tailwind. This increasing momentum is likely to elevate demand for consumer goods with exposure to both domestic and regional tourism.

F&B players such as F&N are well-positioned to benefit from increased sales of ready-to-drink beverages, popular among travellers for their convenience. Likewise, QL (MP; TP: RM4.60), through its FamilyMart outlets strategically located in tourist hotspots, are set to capture growing demand for ready-to-eat meals and snacks.

Rising disposable income to support spending. The boost in disposable income from civil servants' pay rise of over 13% (effective Dec 2024) and minimum wage hike (effective Feb 2025) provides a solid foundation for higher consumer spending.

The civil servant salary adjustment alone, involving more than RM10b, is equivalent to approximately 1−2% of total retail trade in CY23. While the RON95 petrol subsidy rationalisation and proposed electricity tariff hikes, both starting mid-2025, may pose some headwinds, their impact is expected to be limited to the top 15% of income earners and domestic electricity users, leaving the broader population relatively unaffected. With electricity contributing just 2−3% to headline CPI, historical precedents such as the 25% electricity tariff hike in mid-2023 (which affected only top 1% of households) indicate minimal spillover into electricity inflation. As a result, these measures are likely to support incremental purchasing power, benefiting both staple and discretionary segments.

Valuation update: Our earnings forecasts, valuation methodology, target prices, and ratings remain unchanged for the consumer sector portfolio, except for MRDIY and PADINI (MP; TP: RM2.25). While we maintain the earnings forecasts and TP for MRDIY, we upgrade the stock to OP (from MP) following the recent share price correction. Additionally, we adjust our TP for PADINI to RM2.25 (from RM3.35 previously) following its one-for-two bonus share issuance, while keeping our valuation basis unchanged.

Our TP and recommendation for consumer stocks are summarised in Exhibit 3.

Our top picks for the sector are:

• F&N for: (i) its earnings defensiveness given the stable demand for essential food items despite high inflation and an uncertain global economic outlook, (ii) the rising popularity of ready-to-drink products where F&N has a strong presence, (iii) proxy to the recovery of domestic consumption and the return of tourists in Thailand, and (iv) its long- term growth prospects driven by its investment in a sizeable dairy farm in Gemas, Negeri Sembilan.
• MRDIY for: (i) its dominant position in Malaysia's home improvement market, (ii) its size that translates to strong bargaining position vs. its suppliers, and economies of scale, (iii) its ample headroom for growth in terms of store count, and (iv) its continued efforts to improve operational efficiency such as the introduction of an automated inventory system.
• KAREX for: (i) its leading market position and global reach in the rapidly growing condom industry, projected by industry experts (such as Global Market insights and Extrapolate) at a CAGR of 8% to 9% over the immediate term, (ii) its strong R&D and product innovation, (iii) its adherence to international standards and certifications, (iv) its strategic shift in moving up higher the value chain, and (v) growing preference for high quality innovative condom products.

Source: Kenanga Research - 6 Jan 2025