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26 April 2012
Further upside for BAT is unlikely given its lofty valuations following its 13% year-to-date surge in share price and an uncertain near term outlook, advise investors to take profit, target price RM53.55 - Affin Investment Bank
(BAT opening stock price today (26.4.2012) was RM 55.12 )
British American Tobacco (M) Bhd's (BAT) results for its first quarter ended March 31, 2012 (Q1'12) on Monday painted a positive picture for 2012 volume sales.
Total industry volume (TIV) sales grew by 7.7% year-on-year (+17.9% quarter-on-quarter), driven by stronger enforcement against illegally priced local cigarettes and smuggling activities, and the absence of an excise duty hike during Budget 2012.
That said, we think further upside for BAT is unlikely given its lofty valuations following its 13% year-to-date surge in share price and an uncertain near term outlook. Unlike the brewery sector (which has enjoyed six consecutive years of tax reprieve), tobacco companies have faced increasing regulatory measures to reduce smoking habits.
The absence of an excise tax increase in Budget 2012 came as a surprise, as the tobacco sector has faced successive excise tax increases in the preceding eight years since 2003. We believe a second tax reprieve this year is unlikely and the question here is not whether the Government will raise excise tax, but rather when and by how much. Our financial years 2012 to 2014 earnings forecasts impute an annual excise tax increase of two sen per stick.
Any excise duty hike would likely push the price of a premium 20s pack beyond the psychological threshold of RM10, potentially prompting smokers to switch to lower priced cigarettes. Downtrading activities could be further exacerbated by continuing sales of local sub-value-for-money cigarettes below RM7 per pack.
We gather that illegal pricing activities have not been completely eradicated and are picking up again.
Another potential obstacle includes plain packaging for cigarette packs. Australia is the first country in the world to implement the new measure when it passed a bill to make plain packaging law in November 2011.
However, we believe that such a law, if implemented in Malaysia, would be detrimental to legal tobacco products as the ease of replicating plain packaging would only fuel the proliferation of illicit cigarettes.
Separately, the Health Ministry also recently announced that they were considering reducing the nicotine content in cigarettes to curb smoking addiction. A reduction in nicotine content would more likely affect smoker preference rather than earnings.
The impact from a shift in preference is difficult to quantify at this juncture.
We maintain neutral on the tobacco sector, with a reduced recommendation for BAT (target price RM53.55) and add rating for JT International Bhd (JTI) (target price RM7.90). For now, we advise investors to take profit on BAT and switch to JTI, given its undemanding valuations and a potentially higher dividend payout.