Hai-O’s MLM segment seen facing structural challenges

This article first appeared in The Edge Financial Daily, on June 27, 2019.
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Hai-O Enterprise Bhd
(June 26, RM2.24)
Downgrade to sell with a lower target price (TP) of RM1.80:
Hai-O Enterprise Bhd’s financial year 2019 (FY19) core net profit declined 34% year-on-year (y-o-y) to RM47.4 million, as sales in its multilevel marketing (MLM) segment fell 36% y-o-y, amid depressed distributor activity and a shift in product mix towards smaller-ticket items, which overall contributed to a 1.6 percentage-point y-o-y decline in group earnings before interest  and tax margin despite better margins for small-ticket items. Both its wholesale and retail segments recorded lower revenue as well (-7% and -2% y-o-y respectively), led by a drop in sales for non-patented medicine products for the former, and lower sales of premium food supplements for the latter. On a brighter note, dividend payout remained high at about 80%, bringing FY19 dividend per share (DPS) to 13 sen (FY18: 20sen).

Bleak MLM performance in the fourth quarter of FY19 (4QFY19) fell short of our expectations for a sequential recovery. Sales further fell 16% quarter-on-quarter (q-o-q) to a multi-year low last seen in 2QFY16, while membership recruitment and renewal remained lacklustre. This came despite Hai-O’s launch of its overseas incentive trip campaign to Melbourne during the quarter, alongside other promotions such as its monthly flash sales programme launched in March. We infer that the group could be bleeding market share amid an overall plateauing direct selling market, whereas sales for the first quarter of calendar year 2019 held up for the market leader, Amway. This is possibly due to less excitement for Hai-O’s recently launched products such as its relatively new Infinence brand fashionwear while Amway retains a reputable brand image in the local market.

We cut our FY20-21E earnings per share estimates by -20%/-26% respectively, mainly to account for structural challenges seen hampering Hai-O’s MLM segment — its key earnings driver. Subsequently, we ascribe a lower TP of RM1.80 (from RM2.50) after pegging a lower FY20E price-earnings multiple of 12 times (from 13 times) based on -1 standard deviation of its three-year historical average. Thereafter, we downgrade Hai-O to “sell” from “hold”. Upside risks are a recovery in its MLM distributor base and better-than-expected take-up rate for its new products. — Affin Hwang Capital, June 26