Earnings Report /
Sri Lanka

Ceylon Tobacco: Volume pressures continue; valuations provide upside

  • Volume recovery slower than expected; slight uptick in Q1 so far

  • CTC continues to invest in brands; premium brands continue to grow

  • We revise our target price down to LKR1,225/share and maintain our Buy rating

Asia Securities
4 March 2020
Published byAsia Securities

Given the higher-than-expected pressures on volumes, we revise our target price to LKR 1,225/share (previously LKR 1,385/share). Including a dividend yield of 8.0% and the recent price drop, we derive a total shareholder return of +19.4%. BUY. Earnings came in below our estimates for 4Q CY19 at LKR 4.0bn, down 24.0% YoY. Volumes for the quarter declined 19.0% YoY. However, due to lower excise duties, net revenues were up 11.7% YoY. A constructive liability reversal in 4Q 18 led to higher non-operating expenses, with EBIT declining by 13.0% YoY. Looking at 1Q CY20E, CTC noted that there is a slight improvement in volumes, while we expect 1Q volumes to be flat to down low single digits. Our key concerns continue to be 1) the threat from smuggled cigarettes and beedi, and 2) further excise duty increases post-elections in April, through the budget reading. However, we note that the company continues to be a strong dividend play.

Volume recovery slower than expected; slight uptick in 1Q so far as per CTC

In 4Q, gross revenues were down 5.9% YoY, driven by a ~19.0% decline in overall volumes. This came as a result of continuous excise duty increases since Aug 2018, with the price of a regular Gold Leaf stick moving to LKR 65.00 from LKR 55.00 (+18.2% YoY). As a result, for the full year, overall volumes were down ~17.0% YoY. With volumes down, taxes paid to the government were down 11.1% YoY, which led to a 11.7% growth in net revenues. We remind that despite the NBT removal and VAT reduction, CTC prices did not see any change, as the government increased excise duties concurrently. Our channel checks show a notable drop in volumes as consumers opt for beedi, which sells at significantly lower prices. CTC noted that 1Q is showing a slight improvement in volumes. We expect 1Q volumes to be flat to down low-single-digits YoY

CTC continues to invest in brands; premium brands continue to grow

CTC noted that it carried out pack upgrades and a number of limited-edition product launches for the John Player Gold Leaf (JPGL) brand. Also, the premium brands (Dunhill and Benson & Hedges) saw a high-single-digit growth in 2019 and now account for ~7.0% of the domestic portfolio. Interestingly the low-end segment which includes Capston, now accounts for ~8.0% of the domestic portfolio compared to ~5.0% in 2018. We believe CTC will continue to invest in branding and product extensions amidst ongoing pressures to maintain market share.

We revise our target price down to LKR 1,225/share and maintain our BUY rating

The stock is flat YTD and down 22.6% YoY, currently trading at 10.0x our CY20E estimates, a 28.0% discount to its 3-yr trading average. Given the higher than expected pressures on volumes, we revise our target price to LKR 1,225/share (previously LKR 1,385/share). Including a dividend yield of 8.0% and the recent price drop, we derive a total return of +19.4%. BUY. Should the proposed corporate tax changes pass through, we expect the reduction in taxes to 28.0% from the now 40.0% to add ~LKR 20.00-22.00/share to our CY20E EPS. On the other hand, we expect CTC to continue to maintain a payout of 75.0-80.0% and note that the company continues to be a strong dividend play.