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Unilever Indonesia - Looking expensive
November 20, 2014 10:14

Supported by an extensive product range (1,000 SKUs) and well-known brand names which have facilitated strong market penetration of Indonesian households, UNVR has long been the darling in the Indonesian stock market. As a result of this, the company has consistently traded at a lofty 5-year average premium of 1.36x to the market. However, this premium is simply too high, in our opinion, especially in view of the more challenging business environment, in which the recent fuel subsidy cuts will likely lead to a softening in consumer demand. Stiffer competition is another concern. We reinitiate coverage on UNVR with a Target Price of Rp 26,000, SELL.

Challenging environment to limit growth
Going forward, we believe growth may be limited due to: 1) the fuel subsidy cuts which will reduce consumer purchasing power; 2) stiffer competition in the FMCG industry, as highlighted by Molto’s battle with P&G’s Downy for dominance in the fabric care and softener segment, with the result of a strong market presence for Downy, in addition to looming threats from new entrants such as Ezaki Glico which will commence production in 2015 and offer stiff competition to UNVR’s ice cream products. The tougher competition will undermine UNVR’s position as more substitutes will become available. Furthermore, based on our channel checks, we also believe that UNVR can demand premium prices only for selective products. As such, we forecast only modest growth in revenues in 2015-16 of 11.2-11.7% to Rp38.1tn and Rp42.6tn, respectively. 

Margins under pressure from rising costs
Our sensitivity analysis reveals that for every Rp100 depreciation in the rupiah against the US$, net profits fall by 1.4%. However, as we believe the rupiah has reached its bottom, margins should improve going forward. Nonetheless, with royalty hikes on the table, we think the financial performance and net margins will remain under pressure, before improving in 2016 thanks to expected operational efficiencies. 

The balance sheet remains healthy despite slower growth
Looking at the company’s balance sheet, liquidity is certainly not a problem as the cash conversion cycle is low (2013: 1.8 days, 9M14: 2.3 days), although working capital is negative. Our source of concern relates to two Balance Sheet issues: 1) changes in A/P, A/R and Inventory days that negatively impact the cash conversion cycle, and 2) increasing net gearing which has concealed net margins weakness through strong ROAE. 

Our valuation is at its 5-year average, based on 2015F EPS 
The PE ratio has always been high and the stock currently trades at 39.7x 12-month forward PE (1 standard deviation above its 5-year average), translating into 135.5-43.4% premiums to the JCI and JAKCONS, respectively. With muted growth and rising costs, we think its 5-year average forward PE (33.05x) with a 135.5% premium to the JCI can be justified, although this translates into a lower-than-market Target Price of Rp 26,000.