Expanding illicit market continues to dampen BAT earnings

KUALA LUMPUR: Kenanga Research downgraded British American Tobacco (M) Bhd to market perform with a lower target price of RM33.85 as it believes the reintroduction of the Rothmans brand many not lead to a meaningful recovery in earnings.

BAT's FY17 core net earnings of RM522.4mil came below the research firm's and consensus estimates due to the expansion in illicit market share. 

The cigarette manufacturer announced an interim dividend of 43 sen for the quarter, which brought year-to-date dividend to 169 sen, below expectations of 192 sen.

"FY17 sales of RM3b dropped by 20% mainly the result of a 14% decline in sales volumes with the rise of the illegal trades. 

"Group core EBIT declined by 22% after adjusting for restructuring expenses incurred during the cessation of its manufacturing plant. 

"EBIT margin fell slightly to 22.7% (-0.5ppt) with lower contributions from premium brands and higher marketing expenses incurred with the re-launching of the value-for-money “Rothmans” brand in 4Q17. This translates to core net profit of RM522.4m (-23%)."

4Q17 data showed that the illicit cigarette market had a 59% share, which is an all-time high. 

Kenanga Research believes the reintroduction of the cheaper Rothmans brand is encouraging, bit it believes a more significant outcome can only be achieved by a reversal in the illicit market expansion.

"In addition, having a larger proportion of less premium products of total sales may dampen the group’s margins and returns."

Kenanga Research reduced its FY18E earnings by 16.4% on lower sales assumption and reduced its dividends estimate to 178 sen from 192 sen in line with the adjusted earnings.

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