Post-analyst  briefing,  we  raise  our  FY13/FY14  net  profit  forecasts  by 1%/11%  to  MYR124m/MYR137mrespectively,  primarily  lifted  by  higher ASPs.  Accordingly,  we  raise  RJR’s  FV  to  MYR6.27  (from  MYR5.72), based on FCFF valuation. We also upgrade the stock to NEUTRAL (from SELL). In our opinion, the stock is close to being fairly valued.

• Digesting  the  numbers.  Sales  of  RJR's  premium  flagship  brand, Mevius, continued to grow at a healthy clip in 3Q13 (+5% y-o-y) while its value-for-money (VFM) brand, Winston,  posted resilient  sales during the quarter  (-0.5% y-o-y). Overall,  although  the company's 3Q13 total sales volume was flat y-o-y, it still outperformed its peers (-2% y-o-y).
• Higher capex should not hamper special payout.  Management said it will incur higher capex  for  FY14-FY15  to  set up a new packaging line. We gather from the  company’s  3Q13 notes to  its  financial accounts  that it has    capital  committments  amounting to  MYR89m. That said,  we also note  that  RJR’s  cash  pile  is  building  up  again  (3Q13:  MYR174m)  and hence do  not rule  out the possibility of  the company declaring  another special dividend.
• Outlook.  Going forward, we foresee a significant slowdown in industry volume growth amid a proliferation of illicit cigarettes.
• Forecasts  &  risks.  We  raise  our  FY13/FY14  net  profit  forecasts  by 1%/11% to MYR124m/MYR137m respectively (please see Pg 3 for more details). The key risks to our forecasts are: i)  weaker  sales volume, and ii) higher-than-expected raw material cost.
• Valuation  &  recommendation.  Following  the  upward  revisions  to  our financial  forecasts,  we  raise  RJR's  FV  to  MYR6.27  from  MYR5. 72, based  on  FCFF  valuation  (COE:  9%,  TG:  1%).  This  represents  an implied FY14 P/E of 12x, which we deem fair  vs the 17.5x  we ascribe to British American Tobacco Malaysia (ROTH MK, SELL, FV: MYR57.06). All said, given that our current FV provides a  potential price downside of less than 10%, we upgrade the stock to NEUTRAL (from  Sell).

Key Briefing Takeaways

Review of sales performance.  We learnt  from the  company’s  analyst briefing last Friday  that total industry volume (TIV) for 9M13  dipped 2.2% y-o-y while RJR’s total sales volume was flattish (-0.2% y-o-y). The weaker TIV  was primarily due to higher retail  prices  for  cigarettes  as  industry  players  raised  their  average  selling  prices (ASPs) by 20  sen per 20-stick pack (/pack) in October  last year,  and by another 30 sen/pack  in  June  this  year.  Going  forward,  management  expects  TIV  volume  to contract  even  further  (possibly  by  double-digits)  following  a  steep  ASP  hike  of MYR1.50/pack  (+14-17%)  two  months  ago,  which  was  inevitable  after  the Government  raised  the  excise  duty  on  tobacco  by  60  sen/pack  to  MYR5/pack (+14%).

That  said,  sales  of  RJR’s  premium  flagship  brand,  Mevius  continued  to  grow  at  a healthy clip in 3Q13 (+5% y-o-y), while sales of its VFM brand, Winston, was resilient during the period (-0.5% y-o-y). Note that RJR’s 3Q13 utilisation rate stood at 75%.

Higher  capex  but  should  not  hamper  special  payouts.  Management  said  it  will incur  a  higher  capex  for  FY14-FY15  to  set  up  a  new  packaging  line  (the  average maintenance capex for the past 5 years is MYR15m). From the company’s notes to its  3Q13  financial  accounts,  we  gather  that  it  has  made  a  capital  commitment  of about MYR89m, although it did not say when this will be recognised.

Although this may affect the chances of RJR declaring a special dividend  in  the near term,  we  also  note that its cash  is piling  up again (3Q13: MYR174m). As such,  we are not ruling out this  possibility, since the company dished out a special dividend of 21sen/share (MYR55m) in March this year even with a cash pile of MYR150m.

Inventory of domestic leaves to be fully used up by 1H14. Management said that RJR is beginning to realize some cost savings from  utilizing  imported leaves (3Q13 raw material costs (-20% y-o-y, -8% q-o-q) as the leaf blend mix is now tilted towards imported rather than domestic leaves. Typically, imported tobacco leaves are about 30% cheaper than the locally grown ones. W e understand that by 1H14, RJR would have fully used up all its local leaf inventory.

Forecasts  &  risks.  Given  that  RJR  raised  its  ASPs  by  MYR1.50/pack  in  late September (due to a 14% excise duty hike), we estimate that the company is poised make a 90 sen  gain in every  pack of cigarettes sold. We think that the incremental increase  in  ASP  is  more  than  sufficient  to  offset  the  decline  in  sales  volume. Accordingly,  we  raise  our  FY13/FY14  net  profit  forecasts  by  1%/11%  to MYR124m/MYR137m  respectively  on  incorporating:  i)  the  higher  ASP,  ii)  toning down  our  FY13/FY14  sales  volume  assumptions  by  1%/9%  to  2.8bn/2.6bn  sticks respectively, iii) revising upward our FY13/FY14 capex assumption by  MYR20m to MYR35m,  and  iv)  increasing  our  FY13/FY14  depreciation  expense  f orecast  by 3%/8%  respectively. The key risks to our forecasts are: i)  weaker  sales volume, and ii) higher-than-expected raw material cost.

Valuation  &  recommendation.  Following  the  upward  revisions  in  our  financial forecasts, we raise RJR’s FV to MYR6.27  from MYR5.72, based on FCFF valuation (COE: 9%, TG: 1%). This represents an implied FY14 P/E of 12x, which we deem fair compared  with  the 17.5x  we ascribe to British American Tobacco Malaysia (ROTH MK,  SELL,  FV:  MYR57.06).  The  30%  discount  reflects  RJR’s  lower  dividend  yield and high exposure to the VFM market, where smokers are  more cost-conscious and have  a  higher  propensity  to  switch  to  illicit  cigarettes.  Given  that  our  current  FV provides  a  price  downside  of  less  than  10%,  we  upgrade  the  stock  to  NEUTRAL (from Sell)

Financial Exhibits

SWOT Analysis

Company Profile
JT International (RJR) is in the business of manufacturing and distributing cigarettes. The company, which derives most of its revenue from the value-for-money (VFM) segment, has key brands such as Winston and Mevius.

Recommendation Chart

Source: RHB