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Morningstar | Tingyi’s 2018 Result Largely in Line, but a Drop in Market Share Causes Concern

We’re raising our fair value estimate for no-moat Tingyi to HKD 11.50 per share from HKD 11, mainly owing to the time value of money and the impact of appreciation of the Chinese yuan against the Hong Kong dollars as we roll over our model. Tingyi posted its 2018 full-year results broadly in line with our expectations, with revenue and net profit up 3% and 35% year on year, respectively. Stripping out the nonrecurring impairment losses for machinery and equipment, EBITDA grew 5.3% year on year to CNY 7.59 billion. In the long term, we believe the company will retain its leading position in the instant noodles and tea beverages market, given its extensive distribution network across the nation. Management’s focus was set to improve its profitability. However, Tingyi’s shrinking market share in both segments raised our concerns that the company will no longer dominating the markets, which lead the company to increase its marketing and advertising expenses to solidify its position. The shares are fairly valued to new fair value estimate.

Our revenue forecast remains largely unchanged, as we project Tingyi’s revenue to grow at CAGR of 5% over the next five years, with instant noodles and beverages sales growing 5% and 5.2%, respectively. As consumers continue to trade up for higher-end products, along with positive outcomes from effective production costs reductions, we anticipate the company’s gross margin to improve to an average of 31.7% through 2023, compared with 30.5% average over the past three years. On the negative side, we revise up our five-year selling expense/sales ratio forecast to 19.8%, versus 19.5% in 2018, due to an escalating competition landscape amid slowdowns in economic growth. Our five-year forecast for the operating income is a CAGR of 9%, while operating margin will average 5.9.

Sales from the instant noodles business increased 5.7% year on year, accounting for 39% of total sales. Higher-end noodles continued to grow ahead of lower-priced products, with high-end bag noodles sales up 10.6%, while the mid-end bag noodles dropped 6.7%. Revenue growth of the business was trailing the industry’s 8% growth. Despite its leading position in the market, market share losses continued to worsen for Tingyi in 2018, with volume and value share decreasing 1.7 and 2.8 percentage points from 2017, respectively, to 42.4% and 47.1%.

Sales from the beverages segment grew 1.6% year on year, accounting for 58% of total sales. On the segment front, tea and carbonated drinks grew 3.3% and 20.9%, respectively, while bottled water and juice segments declined 23.7% and 10%, respectively. Similar to the instant noodles business, top-line growth for the beverages business also came in behind the industry’s 4.6% growth. Volume and value market share for tea drinks (including milk tea) decreased 4 and 2.7 percentage points from last year, respectively, to 45.6% and 35.5% in 2018.

Gross profit increased 8% year on year and gross margin was up 145 basis points to 30.9%, 60 basis points above our 30.3% forecast, owing to the better product mix and lower cost pressures from raw materials, as the falling prices of palm oil and sugar offset the higher-level prices of flour and PET resin. EBITDA rose 2.4% to CNY 7.38 billion. Excluding the effects of gains from activation on assets and the provision of impairment losses on machinery and equipment, EBITDA was up 5.4% year on year to CNY 7.59 billion.

Noticeably, the company will distribute a dividend of CNY 0.22 per share to shareholders. Meanwhile, the company will also distribute a special dividend of CNY 0.22 per share, after considering the profits through activation on assets and ample cash on hand for future capital investment and working capital needs. The total dividend will be CNY 0.44 per share, an equivalent of 100% payout ratio.