Drawing parallels from the RTD (ready-to-drink) soft beverage industry in Japan, where sugar-free tea gained traction amidst the recession in 1990s, the sugar-free RTD tea category in China also delivered explosive growth over the past three years and is expected to sustain DD% sales growth in 2025-26. For the packaged drinking water category, Nongfu’s pricing strategy now turns more rational with a marginal cut in price- based promotion; looking into 2025, Nongfu may continue to prioritise market share consolidation, likely with 7.0% YoY growth in sales value.
　　We reduced top-line forecasts by 4-5% for 2024-26E owing to lower ASP on intense competition, while its profitability could exceed our previous expectation, esp. given more favourable PET cost trend. Our higher TP of HK$39.10 implies 29.9x 2025E P/E. Maintain BUY.
　　Key Factors for Rating
　　Competition in China’s packaged water market. Entering the off-season, with promotion cut (e.g. back to “buy 20 get 4 free” policy from “buy 20 get 8 free” policy on green bottle purified water for distributors) from October 2024, Nongfu’s pricing strategy has become more rational. Sales volume structure so far has been balanced. For 4Q24, we estimate that Nongfu’s water sales should remain weak due to excessive channel inventories. Looking into 2025, we believe that market share consolidation will continue to be the prior task for Nongfu but the pricing system could stabilise. We now look for 7% YoY sales growth in 2025, on low-teen% volume rebound and MSD% ASP decline. On a nationwide basis, Nongfu’s share in the packaged water market is estimated to reach 33-34% in 2025 from 29-30% in 2024, according to our channel check.
　　From a long-term perspective, core drivers of RTD soft beverage market in China would be energy/functional drinks, RTD tea and packaged water. Company wise, Nongfu, as the absolute industry leader, has a wide moat (rooted in strong brand power, diversified portfolio, and execution excellence in channel management), which also contributes to a valuation premium over its peers.
　　Insights obtained from the development history of RTD soft beverage market in Japan. Amid the recession during 1990s, Japan’s RTD soft beverage market size still increased at a LSD% CAGR from 1990 to 2000. In the meantime, sugar-free RTD tea saw accelerating penetration, in line with the trend towards individual-focused consumption in Japan. Similarly, in China, sugar-free RTD tea category delivered explosive growth over the past three years, and is expected to maintain DD% sales growth in 2025-26. Another key factor is the continuous rise in convenience stores and vending machines (on a per household basis), as this could be the most cost-effective solution for product exposure and thereby interactions between customers and F&B brands.
　　Key Risks for Rating
　　Risk factors: 1) weaker-than-expected overall consumption sentiment in China; 2) shifting competitive landscape; 3) rise in PET price; and 4) reputation risk.
　　Valuation
　　We revised down our revenue forecasts by 4%/5%/4%, mainly to factor in lower ASP in a still competitive environment. Margin tailwinds include: lower PET prices and disciplined expense management. As a whole, we fine-tuned our net profit forecasts . Our new TP of HK$39.10 is derived from DCF approach with the following core assumptions: 1) WACC of 9.2% (previous: 8.8%) and 2) perpetual growth rate of 4% (previous: 3%). Maintain BUY, and the TP implies 29.9x 2025E P/E.