Equity Analysis /
Sri Lanka

Distilleries Company of Sri Lanka: Volumes to recover faster than expected; upgrade to Hold

    Asia Securities
    29 November 2019
    Published byAsia Securities

    Growth in disposable income to drive demand for DIST

    With the recently announced PAYE tax revisions, we expect consumers to see an expansion in disposable income, which bodes well for the alcohol industry. Due to disproportionate excise duty increases, DIST has been at a disadvantage in terms of pricing compared to LION. This, coupled with slow consumer spending led to a volume de-growth over the past two years. However, with a pickup in spending recovery, we expect a boost to consumption. Further, should the proposed removal of NBT and reduction of VAT pass through, we believe DIST may take the opportunity reduce prices of its products. Our back-of-the-envelope calculations show that a direct tax reduction would result in its popular 375ml special arrack bottle prices reducing by LKR 40 to LKR 400/bottle. While still more expensive than beer, we believe a price reduction could provide a further boost to demand. However, the mechanics of implementation including impact of input VAT have not been discussed yet. As a result, we have not included the impact from the tax revisions in our estimates.

    However, excise duties could be revised through the 2020 budget

    We expect the usual excise duty revisions to come through the 2020 budget reading, which we believe will take place in March 2020. We do note however that under the previous Rajapaksa government (2005-2014) alcohol tax revisions have been more rational compared to the revisions over the past five years. As such, if the same policies are adopted, we can expect similar changes to duties. However, we note that any selling price revisions by DIST due to duty revisions will result in a change to our volume estimates for DIST.

    We revise our target price to LKR 17.00/share and our rating to a HOLD

    On the back of the changes to our volume growth expectations, our revised estimates lead us to a DCF valuation based (WACC 12.9%) target price of LKR 17.00/share (previously LKR 14.00/share). Including a FY21E dividend of LKR 0.70/share, we arrive at a total return of -8.5%. As such, we revise our rating to a HOLD from a SELL.