Surprise BAT, JTI Pullback of Cigarette Price Not Reversing Analysts'' Bearish View

Source from:  The Star Online  09/24/2014

The reversal of an earlier cigarette price hike by tobacco companies British American Tobacco (M) Bhd (BAT) and JT International Bhd (JTI) surprised the market, but did not do much to reverse the bearish view analysts have on BAT.

Half of the analysts polled by Bloomberg have a "sell" call on BAT, and some think the pullback of the RM1 price hike implemented earlier in the month, the first time companies have done a U-turn in selling prices, would not do much to reverse a slide in earnings the company is forecast to experience.

One of the reasons analysts are negative on the stock is because of the declining sales volume of cigarettes. "We still hold the view that there will likely be a decline in volume for financial year 2014 (FY14) and FY15, although this could be less significant after the previous prices are restored," said RHB Research in a report yesterday.

BAT's profitability has been on an uptrend despite rising cigarette prices in years past, which made it costlier to smoke. As cigarettes are seen as an inelastic good, a price hike often beefs up profits even though prices are increased.

But this time, analysts feel profits will not follow the normal trend.

"We have tweaked our average selling price (ASP) as well as volume assumption in view of the change in the ASP. We have also trimmed our earnings forecasts for FY14/FY15 accordingly by 1.7% and 7.5%," said RHB Research.

Analysts pointed out that the previous big hike in the selling price of cigarettes by RM1.50 a pack had had a negative impact on the industry. The sale of illicit or smuggled cigarettes increased and captured a larger slice of the market as the prices of legal cigarettes increased.

"The total legal industry's volumes have been on a downtrend. As it is, first-half FY14 legal industry volumes have contracted by 7.6% year-on-year. The decline would have been greater were it not for the ongoing Ops Outlet carried out by the authorities to curb the proliferation of illicit cigarettes," AmResearch said in a note.

"Our view is supported by BAT's statement, which attributed its decision to its need to 'remain competitive'. BAT is currently the market leader with a 62% market share, while JTI and Phillip Morris International hold 22% and 16%, respectively."

BAT and JTI had on Monday reversed a previous price hike made earlier in the month. The reason given for raising prices was higher costs, while the rationale for bringing prices down was said to be for competitive reasons.

Analysts said the clawback from the previous hike was due to Philip Morris maintaining its prices and not following the price hikes of its competitors. Had there been a difference in pricing, some analysts feel Philip Morris would have been the main beneficiary.

Affin Hwang Capital in its note expects excise duties to increase, given the Government's plan to raise tax collection and its campaign to curb the smoking habit.

Any price hike, it feels, would raise the market share of illicit cigarettes. "The illicit market share rose to 39% of the total industry market share in October-December 2013 (from 35% in June-August), following the price hike of RM1.50 per pack in September 2013. As such, we believe that an excise hike would have negative effects on the tobacco manufacturers' earnings," Affin Hwang Capital said.

BAT closed down RM1.62 yesterday to RM68.98 from its previous close of RM70.60. Enditem