Second RTL line offers cutting edge technology to tobacco brands
Jinye, the plant we visited, has a to tal capacity of 20,000 tons. This is Huabao’s second line, taking its total capacity to 30,000 tons. The line is designed by combining machines from different countries (including the US, Germany, France and Canada) and local customization. This line is more flexible in meeting customer customizat ion with improved operating efficiency (energy saving, fast and stable quality). Management believes its cutting edge technology will help secure more JVs with tobacco brands.
Huabao’s advantages in RTL
1) Huabao offers synergistic effect to RT L products as it is a tobacco flavor company, 2) it uses advanced technology 3) it is more transparent since it is a listed company, 4) it can integrate reso urces and implement better use of raw materials, and 5) it is developing new materials, and management believes it is more advanced in R&D.
RTL is believed to be the cheapest method in lowering tar content
In 2010, the State Tobacco Monopoly Ad ministration required that from 1 January 2015, the tar content in each cigarette must not exceed 10 mg. One of the ways to achieve this is to fill part of the cigarette with RTL. This is the cheapest way, according to manageme nt. Other methods involve the use of special filters and cigarette papers. Currently, RTL on average is only 5-8% of a cigarette’s total volume vs. ~20% globally,
RTL capacity may increase to meet demand
Management estimates that currently there is roughly 100,000 tons of RTL output while total granted production capacity in the market is about 160,000 tons. Should RTL account for 20-25% of total volume of a cigarette, management believes market demand for RTL may double to over 300,000 tons. Based on its estimate, China government will grant 80,000 tons new capacity a year. We believe this will create opportunities (through JVs and investments) with Huabao having technological edge in this segment.
Huabao updates
Management reiterated its guidance, stated in 1HFY13 analyst meeting, of 15% sales growth with RTL, accounting for HK$600m in sales in FY13. Apart from capex and opex, management believes excess cash should be returned to investors through share buyback or dividend. Paying dividend is its preferred mode.
The author of this report wishes to a cknowledge the contribution of Richard Huang, an employee of Accenture, a third-party provider to Deutsche Bank offshore research support services .