Higher dividend payout ratio to reward shareholders
We are raising our dividend payout ratio for our FY15-17 forecast to 46% from 40%. Based on our updated forecast, the stock now offers a 5.8% FY15 yield despite its recent strong performance. We are maintaining our Buy rating.
Industry tailwinds have not changed Huabao’s operating environment
Huabao’s share price has risen 38% since its FY14 results announcement. Although we have seen active M&A and rapid e-cigarette (e-cig) development in the global tobacco industry, we believe the global industry tailwinds have not changed Huabao’s operating environment in China.
Lifting dividend payout ratio forecast to 46% from 40%
However, during Huabao's NDR in Europe (23-25 June 2014), management indicated that the company will consider increasing the dividend payout ratio in future (FY14: 46%), provided there is no major M&A. We are therefore increasing our payout ratio forecast for FY15-17 from 40% to 46% .
Raising target price to HKD5.9 from HKD5; maintaining Buy
Based on our updated forecast, Huabao is trading at a 5.8% FY15E yield, or at the top of its fragrance and tobacco peers’ range, and we maintain our Buy rating. We are raising our DCF-based target price from HKD5 to HKD5.9, as a combined result of: 1) changing the equity beta from 1.2 to 1.3 and changing the terminal growth rate from 1% to -3.5% to address the concerns of the tobacco industry as a sunset industry; 2) narrowing our discount to DCF valuation from 40% to 15%, as we believe that, with the company increasing its dividend payout, the market will be more relaxed towards Huabao's free cash flow management. Our target price is equivalent to 8.6x FY15E P/E and a 5.4% dividend yield. Key risks: input cost volatility, regulatory changes.