While we see no exercise duty increase in the recent 2013
budget, which should be a piece of good news to tobacco players, we still
maintain our NEUTRAL rating and our MARKET PERFORM call on BAT with a TP of
RM58.70. The uncertainties over future potential excise duty hikes remains high
especially after 13th GE and
the continuing high level of illicit trades with the declining TIV since 2004.
Also, given two consecutive years of zero tax hikes, we are not surprise to see
the Government raising the tax in the coming one year ahead, with the quantum
possibly ranging from 1 sen to 3 sen per stick. Should the Government imposes a
higher tax of more than 10% on cigarettes (around 2 sen per stick), we reckon
that the TIV will most likely be affected, hurting mostly the big players.
In line with
expectations. The 2Q12 and 1H12 TIV had improved by 0.6% and 4.0% YoY respectively.
This is because 1Q12 saw a consumption increase after the absence of an excise hike
in Budget 2012. In addition, 1Q11 consumption was low due to the off-budget
increase of excise duty back then in Oct 2010. Further, the government’s
generous goodies distribution to the households in last year’s Budget 2012 also
has had a positive spillover effect to the legal tobacco industry. Together
with the 7-13% increase in the civil servant salaries then, it led the consumers
to move up from the illicit and sub-VFM to premium cigarettes, especially in
the suburban areas. In summary, 1H12’s TIV of 6.8b sticks was in line with our
expected TIV sales of 13.4b sticks for the full year, making up 50.7% of the
latter. Historically, 1H usually makes up slightly above 50% of the full-year volume,
although an exception was noted last year in 1H11 as it was badly hit by the
double-digit increase in excise duty in Oct 2010. This resulted in illicit
trades surging 32.5% to 37.3% in 2Q11.
Will history repeat
itself? As seen in our analysis (see chart overleaf), there were only three
years in the past 12 years (the first time in Budget 2003, 2012 and 2013) where
the Government did not raise taxes on the industry. In the first case, the subsequent year 2004 saw
a continuation of the yearly increase in the excise duty by 20%. And worse,
after the Government won comfortably in the 11th GE, it doubled up the increase to 40% for
2005. Tobacco shares prices like BAT then was still on an uptrend in line with
the market, where the 2004 hike (announced in Sept 2003) did not deter its
rising rally but the doubling-up in 2005 finally took the winds out of its
rally, causing BAT’s share price to plunge 28%.
Could a similar
situation recur going forward? With no excise duty hike for the last two consecutive
Budgets, there is a high possibility hence (similar to the 2004 scenario) that
there will be a hike after the upcoming 13th GE (we are expecting a quantum of around 1-3
sen, likely at the lower end, which should be bearable for the industry).
However, the worry is what will happen should the Government win comfortably in
the upcoming 13th GE like it
did then in the 11th GE in
2004? We reckon it could be emboldened then to exert a heavier pressure on the
industry, possibly through raising the excise duties significantly next year
like what happened in 2004, either through wanting a higher revenue or to clamp
down on the smoking habit. Whatever the reasons then, there could be a repeat of history where the rally in the sector
will end prematurely (like in 2004), especially given the high level of illicit
trades now at 35% compared to just 14% then in 2004. If the Government imposes
a higher tax of more than 10% on cigarettes after the GE, the TIV will most
likely be affected, and it will hurt the big players the most.
Thus, neutral at this
juncture. Our main concern is the timing and the quantum of the next tax
hike that will kick in. It is unlikely that the tax hike will be implemented in
4Q12. Thus, we remain positive on our forecast of a slight improvement in the
overall TIV for 2012. However, the challenges and obstacles that the tobacco
industry faces remain with the key challenges being the continued uncertainties
of future excise duty hikes especially
after GE13 and the continuing high level of illicit trades compounding the
negative effect of eight consecutive years of decline seen in the TIV. As a
result, we continue to remain only NEUTRAL on the tobacco industry for now and
are maintaining our MARKET PERFORM call on BAT with a TP of RM58.70. Although
we have not included JT International into our coverage yet, we believe that
BAT will continue to lead its peers as its market share is light-years ahead of
the rest, especially in the premium segment.
Source: Kenanga
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