This article first appeared in The Edge Financial Daily on December 3, 2018

KUALA LUMPUR: This holiday season is not expected to bring much joy to the fashion retailers like Padini Holdings Bhd and Bonia Corp Bhd, as consumers continue to tighten their purse strings.

With the reintroduction of the sales and service tax (SST) after a three-month tax holiday in September and due to intense competition, the retail sector is anticipated to remain soft, say analysts.

In line with this, analysts have slashed their earnings forecasts for Padini and Bonia and downgraded their ratings on the two companies.

Of the 12 research houses covering Padini, two have issued “buy” calls, three “hold” calls and the rest “sell” calls, with the target price ranging from RM4.05 to RM7.15, according to Bloomberg data.

For Bonia, there are two analysts covering the stock with a “sell” call and a “hold” call, with target prices at 21 sen and 27 sen.

Retailers, particularly in the fashion subsector, were the worst performers in the consumer sector in terms of earnings for the July-September 2018 quarter as they did not benefit much from the tax holiday period as consumer spending was mainly focused on big ticket items.

Padini saw its net profit for its first financial quarter ended Sept 30, 2018 (1QFY19) fall 42.5% to RM17.96 million, from RM31.2 million a year ago. Revenue, however, was slightly up by 4.6% to RM329.8 million from RM315.18 million.

The poor results caused Padini’s share price to nosedive 13.04% or 72 sen to close at RM4.80 last Friday, valuing the group at RM3.16 billion. A year ago the counter was trading at RM4.95 and it went on to hit an all-time high of RM6.17 on Aug 6 before pulling back.

On the other hand, despite a sharp fall in earnings in 1QFY19, Bonia’s share price only declined by one sen or 3.64% to 26.5 sen last Friday, bringing its market capitalisation to RM213.5 million. Over the past year, however, the counter has fallen by 26.39%.

Bonia’s net profit dropped 82.42% to RM232,000, from RM1.32 million in 1QFY18, while revenue was down 1.17% to RM99.19 million from RM100.36 million.

MIDF Research analyst Nabil Zainoodin told The Edge Financial Daily he is wary about the two companies’ performances following the poorer sales after the reintroduction of the SST. This is despite the anticipation that retailers will further increase promotional expenses in December in conjunction with the school holidays and year-end festivity to entice consumers to spend.

In a note dated Nov 30, Nabil revised downwards Padini’s earnings forecast by 21.8% and 20.5% for the financial years ending June 30, 2019 (FY19) and FY20, respectively, due to the reduction in the number of new stores opening and the longer gestation period for these new stores to break even.

“While we expect a gradual improvement in margins as the group adjusts the brand prices, we foresee a challenging outlook for the group as we expect that recently launched stores will have longer gestation period than the average of two to three years,” he said.

TA Securities analyst Damia Othman concurred, saying she is cautious about FY19 earnings due to a lower sales volume following the implementation of the SST as this is expected to increase product prices, and the higher staff costs arising from the increase in minimum wage to RM1,100 per month effective January 2019.

“We find sales to be less than expected and costs were higher than expected. We believe this is due to strong competition in the retail market and increasing costs of operations in terms of staff and marketing,” said Damia in an email response.

In a note dated Nov 30, Damia has reduced Padini’s earnings forecasts for FY19 to FY21 by 19% to 22.3%, after reducing the sales assumption by less than 1% for the period and increasing the costs of sales assumption by 1.8% and administrative expenses by 24.7% to 36%.

Despite the stretched valuations of consumer stocks, Areca Capital Sdn Bhd chief executive officer Danny Wong believes that the retail segment remains a good one to look at in the long run.

“I do agree with the general sentiment on retailers, especially Padini, that the earnings growth may not have a very surprising upside, but the steadiness is why I like it,” said Wong.

Nonetheless, he said, Padini may face the threat of competition from online retailers

Last week, Retail Group Malaysia had revised up its retail growth rate for the last quarter of this year to 4.7%, from an earlier 4.3% estimate in September, due to the school holidays, Double Eleven shopping festival, Black Friday sales, Christmas and New Year.

Analysts also highlighted that the government’s focus on increasing the disposable income of bottom 40 (B40) income group is expected to fare well for stapled goods companies.

However, TA’s Damia said concerns about high costs of living may dampen sales growth for the discretionary goods companies.

“We believe the food and beverage sector to be more attractive on the back of expected higher disposable income within the B40 group from increase in minimum wage as well as Bantuan Sara Hidup [Cost of Living Aid] allocations,” said Damia.

She added that lower sugar costs and low level of skimmed-milk powder costs are expected to support gross margins, and continuous management efforts in implementing costs savings initiatives are expected to affect positively on the earnings margins for the food & beverages segment.

She noted that flexible plastic packaging manufacturers, such as Scientex Bhd, whose products are used for consumables, will benefit as the increase in consumption will lead to higher orders for plastic packaging.

Meanwhile, in view of the slowdown in economic growth, moderation in private consumption and weakening of ringgit, Nabil believes that the consumer staples sub-segment — which is regarded as non-cyclical and defensive sector — to be the safest bet during such a time.

Another sub-segment to look at is export-oriented companies such as furniture manufacturers, said Nabil, explaining that these companies will also benefit from the weaker ringgit.

An analyst, who declined to be named, said the brewery and convenient store sub-segments will remain attractive as their valuations still appear reasonable and have yet to fully re-rate.

These sub-segments also offer decent earnings growth outlook, structurally favourable prospects and a defensive safe haven, especially amid such market uncertainties, said the analyst.