This article first appeared in The Edge Financial Daily on May 7, 2018

Fraser & Neave Holdings Bhd
(May 4, RM34.94)
Maintain hold with a higher target price (TP) of RM36.20: Fraser & Neave Holdings Bhd’s (F&N) second quarter of financial year 2018 (2QFY18) revenue rose 2.2% year-on-year (y-o-y) to RM1 billion but core net profit fell 4% y-o-y to RM102.8 million. This brought first-half (1H) core net profit to RM211 million (after stripping out foreign exchange [forex] loss of RM11.6 million), which was in line with our and market expectations, making up 51% and 49% of the respective full-year forecasts. Even though the group’s 1H typically makes up more than 55% of the full-year net profit, we expect a stronger 2H on the back of softening commodity prices. F&N declared an interim dividend per share of 27 sen (versus 1HFY17’s 27 sen).

F&N’s 2QFY18 reported operating profit fell 15.6% y-o-y largely due to weaker performance of food and beverage (F&B) Malaysia and F&B Thailand, which reported earnings before interest and taxes (Ebit) declines of 24.9% y-o-y and 4.1% y-o-y respectively. F&B Malaysia was hurt by higher input costs and advertising and promotion (A&P) spend, while F&B Thailand saw increased production costs, partly offset by lower A&P spend. Excluding provision for inventories damaged in a fire in Thailand and reversal of restructuring costs in Malaysia, 1HFY18 core Ebit fell 17.2% y-o-y to RM213.8 million.

The group’s 2QFY18 y-o-y sales growth was supported by better showing from its F&B Malaysia unit (+7% y-o-y) on the back of stronger sales during the Chinese New Year celebrations, a two-week shift in sell-in window for Chinese New Year 2018 which fell in mid-February versus end-January in 2017 and double-digit growth in its export market.

Meanwhile, F&B Thailand’s 2QFY18 revenue eased 3.6% y-o-y to RM432.5 million due to difficult domestic market conditions amid a soft economy as well as the production loss of ultra-high temperature milk, which was caused by product shortages on the back of a fire-damaged plant (back in November 2017) of one of its co-manufacturers. This was all partly offset by the double-digit growth in exports to the Indo-China region.  

We understand F&N has effectively hedged its raw material requirements, particularly for milk powder, up until September 2018 forecast. The group hedges a significant amount of its forex on necessary raw material purchases and leaves only a small amount unhedged. Looking ahead, we think the group will only reap the benefits from lower sugar prices in 2HFY18 as it locked in sugar prices at a high last year.

While we leave our earnings forecasts and “hold” call unchanged for now, we raise our discounted cash flow-based TP to RM36.20 as we lower our beta assumption to align it with the latest five-year historical figure. While we think the group will continue to post healthy earnings growth on the back of lower input costs and a resilient earnings profile, we think it is fairly valued for now. FY18F (forecast) to FY20F dividend yields of 2.3% to 2.5% should support its share price. Key upside and downside risks to our call are greater-than-expected decreases or increases in key raw material prices (such as milk powder and sugar prices). — CGSCIMB Research, May 3