【新】Etika International Holdings Nra Capital 20/2/2012

Strong exports demand in Dairies but headwinds ahead
 Improved 1QFY12 results due to stabilising raw material costs. 1QFY12 PATMI of RM5.4m grew 35.8% YoY and surged from a breakeven position in the core operations in 4QFY11 on the back of revenue growth of 19.6% YoY and 4.1% QoQ to RM246.7m. The stronger performance was the result of better sales from Dairies and Frozen Food as well as stabilising raw material costs. In particularly, Dairies continued to enjoy higher sales volume in the domestic and export markets. Lower increases in the costs of sales, which rose 18.3% YoY and 1.5% QoQ, led to gross profit growth of 24.7% YoY and 15.8% QoQ, and a 0.9% points YoY and 2.1% point QoQ improvement in gross profit margin (GPM) to 20.1% in 1QFY12. 1QFY12 PATMI of RM5.4m, amounted to about 29% of our FY12 PATMI estimate of RM18.1m but we have made a mere 3.8% upward revision to our FY12 forecast as we are expecting the Group to face more headwinds in the short-term.
 Headwinds amid strong export demand. Strong exports demand from the regional markets will be the key driver to growth at Dairies, which contributed about 80% of Group operating profits in FY11. To capture the growth, Etika is expanding the sweetened condensed milk (SCM) capacity by up to 30% in Indonesia and Vietnam with revenue contributions expected in FY12 and FY13 respectively. However, Dairies remains vulnerable to volatility in key raw material costs. 1QFY12 improved performance was largely due to stabilizing prices of sugar and palm oil but prices of milk powder remain high. Going forward, the ability to pass on higher raw material costs to consumers will be a challenge in view of price resistance, having hiked selling prices by 15% in FY11. Another headwind is further weakening in the US dollar (USD) against the Ringgit as USD-denominated export sales constitute about 45% of Dairies revenue. As soft commodity prices are likely to stay firm, GPM is expected to remain under pressure although diversification into higher-margin read-to-drink and fresh milk product launches will mitigate downside risk of GPM.
 Challenges in other divisions. Packaging will continue to ride on growth in the Dairies. Frozen Food division caters to the upper niche market of the consumer food business. In the face of the global economic slowdown, rising food and fuel costs will negatively impact disposable income of consumers and keep the growth outlook at Frozen Food muted. At the operational level, high distribution costs as a result of rising fuel costs will also eat into the bottomline. But promising growth in higher-margin businesses, particularly in Bakery, will mitigate margin pressure. Nutrition will continue to face duo challenges of pricing competition with the entry of US competitors into Australia and New Zealand as well as margin pressure arising from rising cost of raw materials, particularly milk powder. However, ongoing efforts to launch new product offering will help to mitigate margin pressure.
 Valuation and Recommendation. FY12 will be a year of consolidation where Etika will continue to streamline operational process to derive costs efficiencies and synergy from acquisitions made in FY10 and FY11. Despite the improved 1QFY12 results, we have only made marginally upward revision to our earnings forecast in light of volatility in soft commodity prices and USD as well as high marketing and distribution costs for the expansion of network in existing and new export markets. We are expecting core earnings to grow 2.2% (FY12F) (previously -1.6% (FY12F)) followed by growth of 69% (FY13F) (previously +73%), lifted by higher profits or turnaround of newly acquired businesses and full-year benefit of capacity expansion for SCM at the new Surabaya plant. We maintain our valuation of Dairies at PER of 18x (FY13), Packaging :PER of 5x (FY13), Nutrition :PER of 16x (FY13) and Beverage : PER of 10x (FY12) and discount to valuation of 30% to arrive at a revised 12-month target price of 29.0Scts (previously 28.0 Scts). Neutral.

Key Corporate Development
Capacity expansion plans in Indonesia and Vietnam. To capture the relatively untapped Asian markets, capacity expansion is underway at Dairies. This division contributed 80% of Group operating profits in FY11. To tap the vast Indonesia market, Etika is expediting the setting up of SCM manufacturing facility in Surabaya, which offers potentially lower production cost-base and capacity expansion of SCM of up to 15%, with commercial production expected in 4QFY12.
Simultaneously, Etika will expand existing capacity in Vietnam by building and setting up a plant on an eight hectare site at Vietnam-Singapore Industrial Park to tap the Vietnam and other export markets. The new plant is expected to expand capacity of SCM by about 15%, under Phase I, with commercial production expected in FY13. A subsequent phase will also cater for the production of UHT milk.
PET bottling plant ready for commercial production. The PET bottling plant in New Zealand will also be ready for commercial production in 2HCY12. To-date, Etika has secured orders from customers, including Fonterra, a world leading exporter of dairy products, to package its milk products for the New Zealand market.
New Product launch. Amid a competitive environment and to mitigate GPM pressure at Dairies, the Group will continue to expand its product range to cater for wider customer needs and price-points. By the end of February 2012, Etika will be launching the Goodday brand pasteurized milk variant.