Review

• Excluding all income and expenses arising from restructuring exercise (+46.2mn), BAT’s FY16 earnings of RM675.1mn came in within our expectations at 96% of our forecast and 101% of consensus estimates. For this quarter, the board declared an interim dividend of 77sen and a special dividend of 46sen due to land sale. Total dividend for FY16 amounted to 278sen, translating to a payout ratio of 110%.

• YoY, FY16 revenue shrunk by 18% YoY to RM3.8bn, owing to the decline in the overall legal industry volume. The total industry volume (TIV) contracted by 25.7% to 7.8bn sticks in FY16. The lacklustre demand was largely due to steep increase in excise duty in Nov-15 which drove up illicit trade significantly. The drop in revenue has filtered down to the bottomline with core profit contracted 24.5% YoY to RM675.1mn.

• On the contract manufacturing front, export volumes contracted by 46.2% YoY to 5.7bn sticks. This was due to the winding down of the group’s factory operations. As of 31 December 2016, all contract manufacturing volumes for exports had ceased operations.

• In terms of market share, the group’s market share drop to 57.1% (-3.8% points YoY) in Dec-16. In the premium segment, Dunhill remained as the group’s cornerstone brand. However, year-to-date, Dunhill’s market share declined by 3.9p.p. to 42.2% due to down-trading activities. Meanwhile, the Aspirational segment continued growing with Peter Stuyvesant gaining more market share to 6.5% (+0.9p.p) in the year.

Impact

• We lower our FY17-18 earnings by 2.5% and 6.1% respectively after reducing our domestic sales assumptions post cessation of manufacturing activities in Malaysia.

Outlook

• The legal market volumes continued to be impacted by rampant illegal cigarette trades after the steep excise duty increase in November 2015. There number of illicit trade had gone up from 36.9% in 2015 to 51.2% in the 2016.

• For the coming 6 – 7 months, we will see gradual transition of the business model. We can look forward to decreasing domestic and duty free volumes, selling of machinery and relocation of headquarters.

• Moving forward, BAT Malaysia will source its volumes from Indonesia, Korea and Singapore. Majority of the volume will come from Indonesia and payments will be in USD.

Valuation

• We lower our DCF valuation to RM54.22/share based on revised discount rate of 6.3%. We downgrade the stock from Buy to Hold given the challenging operating environment with increasing threats from illicit trades and excise duties.

Source: TA Research - 17 Feb 2017