Key takeaways from the 21 Jan-reverse roadshow in Shantou
Huabao hosted a reverse roadshow on 21 January, showing analysts and investors its R&D projects in progress in its production and R&D base in Shantou, Guangdong.
We saw, 1) Modified Reconstituted Tobacco (MRTL) using proprietary air-laid process. According to management, the new process reduces energy consumption and wastage during production process, and helps improving product quality. The MRTL will further improve cost efficiency and reduce tar content for cigarette producers (compared to RLT). Huabao's current MRTL production line (in trial run) can produce up to 2,500 tonne of MRTL p.a. This is a new project on top of its existing 30,000 tonne RTL output quota, and given the quota limit, the company is negotiating with cigarette producers in China on a new business model eyeing on service income (eg. technology transfer, OEM service) instead of product sales; 2) advanced stem processing technology to expand scrap tobacco stem (by 2-4x), which is then used to substitute tobacco in cigarette for cost and tar reduction. According to Huabao, its proprietary technology improves product quality (mainly as it looks and smells more like tobacco) as compared to other technologies in use. As stem account for 30% of tobacco leave by weight, with most of the stem is now trashed, cigarette producers in China are keen to explore new stem processing technology. Huabao is also considering a service income model for the product.
Both RTL and stem processing is no new technology globally, but according to management, Chinese companies therefore have more initiatives to promote modification of technologies to attune to domestic taste as 1) China is the world’s largest cigarette market, and 2) Chinese cigarettes are made with Virginia tobacco while major cigarette producers in rest of the world use blended tobacco;. Huabao believes it is an early bird in localization of RTL technology, and is not worrying about foreign investment in China's RTL industry.
Industry growth count on product mix improvement, M&As and consolidation
According to management, the Annual China Tobacco Industry Conference (held in mid Jan) concluded the direction in seek of sustainable growth for the industry, including, 1) tax paid by the tobacco industry to beat RMB1,000bn in 2014 (2013: RMB956b; +11% yoy), to be contributed by product mix improvement; 2)encourage acquisitions overseas; 3) development of new technology (eg. electronic cigarette, smoke-less cigarette); and 4) accelerate industry consolidation, in particular in Yunnan. Given the positive direction, management doesn't expect any detrimental smoking ban in the near future.