Review

• After stripping off the one-off gain from derivative instruments and other extraordinary items, Farm Fresh Bhd’s (FFB) 1QFY24 core earnings of RM3.3mn (-82.7% YoY) accounting for only 4% of ours and consensus’ full-year forecasts. We deemed it within our expectations as we anticipated a turnaround from 2QFY24 onwards.

• No dividend was declared for the quarter under review.

• YoY, 1QFY24’s revenue leapt by 28.8% as driven by higher contribution from Australia and growing demand from HORECA (Hotel, Restaurant, and Cafe) distribution channels coupled with new launched products’ contributions in Malaysia. Despite the revenue growth, the group adj. EBIT was down by 69.5%, largely underpinned by: (i) lower Australian production to diminish the high-cost inventories in anticipation of easing dairy costs from July 2023 onwards, (ii) persistent high input costs from prior procurement in Malaysia, and (iii) higher marketing cost.

• QoQ, the first quarter’s revenue rose 14.9%, thanks to the same abovementioned reason. Nonetheless, the group adj. EBIT declined 42.9%, owing to higher distribution cost and admin expenses stemming from the increased headcount post-acquisition of Inside Scoop and office expenses as well as the depreciation cost.

Briefing Highlights

• FFB has implemented strategic measures to reduce high-cost inventory by July 2023, expecting improved cost efficiency in the following financial quarter. Malaysia's operational GP margin stabilized at c.20% in 1QFY24 compared to 4QFY24, with further enhancements anticipated due to decreasing whole milk powder (WMP) and ex-farmgate milk prices. Over the past three quarters, WMP costs, comprising 45% of raw milk ingredient expenses, averaged c.USD3,800/MT with a 4-5 month delivery timeframe. Recent declines in WMP costs to around USD3,000/MT as of end-April are projected to positively impact operations starting in August according to our forecast.

• As for Australian facility, the company reported a significant reduction in utilization rates in May and June, which led to increased costs per litre due to the aforementioned measures. However, operations have since improved and almost returned to normal levels in July and August. Consequently, we anticipate that earnings from the Australian facility will normalize in the next quarter, benefiting from lower Australian exfarmgate milk prices and reduced feed costs.

• FFB's ongoing regional expansion in the Philippines is set to continue with plans for a commercial trial scheduled by end-September 2023 before the submission of product registration. All in, this operation is poised to kickstart in the 4QFY24, focusing primarily on the Metro Manila area with a targeted customer base in the HORECA and retail sectors.

• There will be no price adjustment for FFB’s product in FY24.

Impact

• We trim down our FY24-26F earnings outlook by 16.2%/8.2%/4.6% respectively, to reflect higher administrative expenses post-acquisition of Inside Scoop.

Outlook

• Going forward, we expect robust demand for dairy products due to the domestic economic recovery, evidenced by strong revenue growth in 1QFY24. The new UHT packaging line with faster processing will help capture the growing market demand which supported by ongoing marketing efforts and the peer influence stemming from the school milk program (PSS).

• On the flipside, the margin recovery is expected to commence from 2QFY24 onwards, backed by the following: (i) lower Australian exfarmgate price, (ii) decline in WMP costs, and (iii) easing in feed expenses.

Valuation

• We maintain Buy with a lower target price to RM1.53/share (previously RM1.70/share) based on 28x CY24 EPS.

Source: TA Research - 1 Sept 2023