JTI sees tough year ahead, remains ‘cautiously optimistic’

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KUALA LUMPUR: JT International Bhd (JTI), which manufactures Mevius, Winston, Salem and Camel cigarettes in Malaysia, has warned of a tough year ahead, given an expected further decline in sales volume and higher marketing expenses amid inflationary pressures.

JTI managing director Rob Stanworth said following the latest excise duty hike of 14%  in October last year which saw tobacco companies raising cigarette prices by RM1.50 per pack of 20 sticks, the tobacco industry saw a more than 10% drop in sales volume in the fourth quarter of last year and this is likely to drop even further this year.

“I think we will see further contractions this year (as more smokers switch to buying illicit cigarettes which cost about half the price of legal ones). These events (increases in tobacco taxes) rarely moderate quickly,” Stanworth told The Edge Financial Daily in an interview.

Research houses are forecasting total cigarette industry volume to decline by between 10% and 15% year-on-year in 2014.

Despite the challenging operating environment, Stanworth said the group seeks to generate the same profit margin as it has over the years. For the nine months ended Sept 30, 2013 (9MFY13) and 9MFY12, its pre-tax profit margin stood at 13.4% and 13.1% respectively, while net margin stood at about 10%.

In the third quarter ended Sept 30, 2013 (3QFY13), JTI reported a 7.7% decline in sales volume, causing its revenue to dip to RM307.3 million from RM319.2 million in the year-ago quarter. However, this was offset partially by higher cigarette prices in the quarter.

Stanworth said the group can only conclude that the vast majority of consumers had simply moved to illegal cigarettes, which accounted for some 35% of the market. According to the Asia-11: Illicit Tobacco Indicator 2012 study by Oxford Economics, Malaysia has the third highest level of illicit tobacco use, after Brunei and Hong Kong.“As such, our outlook for JTI and the overall industry depends very much on the [legal] market size rather than just the economic situation as Malaysia still has a stubbornly high illicit trade issue,” said Stanworth.

SALES down... JTI managing director Rob Stanworth says the tobacco industry saw a more than 10% drop in sales volume in the fourth quarter of last

Inflationary pressures have also led consumers to cut back on their spending, Stanworth said. He remains “cautiously optimistic” for sustained financial performance for the financial year ending Dec 31, 2014 (FY14).

He explained that while the group is optimistic about its efforts to offer consumers more for their money with new product launches, it remains cautious as the size of the market and its development are not within its control.

On its part, JTI will be intensifying its marketing efforts this year to maintain its competitiveness.

“Investing more in the product itself and marketing are two ways that we can try to win (market share) regardless of the prevailing economic and market environment,” Stanworth said.

JTI recently launched Mevius Airstream, the first slide cigarette pack in the country, which includes a special filter that delivers smoke in a different way, thereby creating a different smoking experience.

“This launch is a clear example that we believe in investing in the product itself, thereby giving consumers something new and something more, and it is one of the key ways we can outperform in the market,” Stanworth said.

He said response to the new product has been “excellent” so far, adding that JTI may export the new “format” to other Asian markets in the future. The slide packs are currently manufactured at JTI’s plant in Shah Alam, Selangor.

“There will always be something (new for consumers). We are always looking to do the most that we can for them,” Stanworth said, when asked if there will be other new product launches this year.

Mevius, Salem and Camel fall under JTI’s premium brands, while Winston falls under the value for money (VFM) segment.

However, Stanworth preferred to refer its VFM segment as a “sub-premium” segment for the quality Winston possesses and that it sells for only RM1.50 below the price of mainstream premium brands.

“Unfortunately, consumers view illicit cigarettes as real VFM [at a price per pack of about RM3.50],” he said.

While acknowledging that comprehensive regulations are already in place, Stanworth said new regulations imposed by the Malaysian government need to be “fact based, and not emotionally or ideologically driven to prevent unintended consequences like driving the illegal market”.

“Ultimately, the government can implement any legislation it sees fit and the legitimate cigarette industry will comply. However, the government must also be mindful that it also has to live with the consequences as well, be that in lost tax revenues or undermining their own health agenda,” he said.

For 9MFY13, JTI posted higher net profit of RM101.5 million from RM98.3 million a year ago, despite a marginal decrease in revenue to RM942.4 million from RM944 million due to a 4.4% decline in sales volume.On its 4QFY13 performance, Stanworth said it has “met management expectations” but declined to elaborate as results will be released by the end of this month.

Year-to-date, JTI stock rose 7.35% to close at RM6.50 last Friday, giving it a market capitalisation of RM1.7 billion.

Trading down by consumers to impact VFM segment moreKUALA LUMPUR: Although consumers do trade down from the premium cigarettes segment to value for money (VFM) brands with each cigarette price increase, sales volume in the premium segment has been growing while that in the VFM segment has declined, said JT International Bhd (JTI) managing director Rob Stanworth.

“Smokers will reach a point where the absolutely high price causes them to leave the legal cigarette market completely or look for alternatives within the total offering available such as going straight from premium cigarettes to illegal ones,” he told The Edge Financial Daily.

However, Stanworth said with JTI having more than 50% share of the sub-premium segment with its Winston brand, it is in a good position to capture consumers who trade down within the legitimate market.

To what extent would any downgrade from premium cigarettes stop at the sub-premium level? Only time would tell, he said.

The reason why JTI does not have plans to penetrate the e-cigarette market at the moment, as Stanworth cited, is due to the availability of very cheap illegal cigarettes, thus making the rate of penetration of e-cigarettes relatively low in Malaysia.

In its Malaysia Strategy report for the first half of the year, UOB Kay Hian Research is of the view that JTI stands to benefit from recent multiple cigarette price hikes as well as potential trading down by consumers to the VFM segment. It has a “buy” call on the stock at RM6.60, with a target price of RM7.70.

The research firm said with a sizeable net cash pile of RM174 million or 67 sen per share, there is upside to dividends as JTI is currently only paying out half of its profits.

Meanwhile, CIMB Research expects the VFM volume to see a bigger plunge as a result of the recent sharp price increase of RM1.50 per pack, given its more price-sensitive consumers.

It sees the volume reduction in the premium segment, which accounts for more than 70% of British American Tobacco (M) Bhd’s revenue, to be milder as smokers in this segment tend to be less price sensitive.

CIMB Research also highlighted that under the current tough operating environment, product innovation is of utmost importance, acknowledging that JTI is upgrading machines to improve the packaging of its products.

CIMB has a “reduce” call on JTI, with a target price of RM5.30. — by Wei Lynn Tang

This article first appeared in The Edge Financial Daily, on February 10, 2014.