Initiation

03 June 2021

Nestle Lanka PLC (NEST SL: LKR 1049.00) BUY +28% Upside
A compelling entry point

NEST is SL’s largest listed FMCG with a market capitalization of LKR 55Bn forming 1.77% of the CSE
with parent Nestle holding 90.82%. Its Top brands Nestomalt, Maggi and Milo comfortably lead the
market niches they are in, despite visible competition. NEST is also one of the world’s largest
Trading Snapshot
exporters of coconut milk powder. We forecast NEST topline to grow with a three-year CAGR of 4.7%,
having reached maturity in its cycle with wide market acceptance with stabilizing margins and GICS Industry Group Food, Beverage &
volumes. Trading at among the lowest multiples that NEST has been used to (Page 05) we initiate with Tobacco
a 28% fundamental upside and a 5.7% dividend yield. Market cap (LKR mn) 57,486
Market cap (USD mn) 288
Better cost management and tax rates help strong bottom-line Outstanding equity shares (mn) 53
NEST reported 170% YoY & 152%QoQ growth in EPS (LKR 32.42) before the third wave of the pandemic Public Holding (%) – Mar’21 9.18%
took effect. With economy normalizing more of NEST’s top products moved in higher volumes with 52-week High/Low (LKR) 1375.00/1130.50
distribution channels in place (Topline rose 26% up YoY to 11bn). A tax reversal of 75mn too aided the YTD ASPI return (%) +9%
top line with new rates of 18% for Manufacturing Business Profits, 14% for Export Profits and 24% for YTD Stock return (%) -18%
Other Income being used against the previous standard rate of 28% for the quarter. Beta 0.4
Bloomberg ticker NEST SL
Possible hike in RM prices could be on way
We see LKR depreciation and lockdown related RM prices putting pressure on NEST margins. We
Valuation
estimate the RM prices to rise pressuring NEST margins. Moreover, the ban on chemical fertilizers would
add to shortages and potential price hikes of locally sourced ingredients while the exchange fluctuations Valuation Method DCF
would affect the cost of imported ingredients. However given NEST’s dominant positioning we are of the CMP (LKR) 1049.00
view that volume increases and pricing power could contravene this. Intrinsic Value (LKR) 1345.22
DPS (LKR) 58.00
Lowest multiple to enter + Fundamental upside
TP based on total return (LKR) 1403.22
NEST is reaching maturity with slow adaptation, but we believe the price has factored in excess negativity
Upside (%) 28.2%
pushing the share down to the cheapest multiples in recent past, and also the cheapest NEST among
Total return (%) 33.8%
regional peers. Despite the visible pressures we believe this is excessive. We also believe that lower
Rating BUY
taxation will be felt in among its more price elastic rural consumers. We recommend BUY.

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Their biggest products are led by powdered drinks and instant food

Important products for NEST Competitors

Powdered Beverages
NEST faces stiff competition in both their
Nestomalt Viva flagship categories, Powdered Beverages
Milo Horlicks and Instant Food. But they are market
Food Maggi Noodles Prima leaders.
Maggi Coconut milk Renuka
powder
Marina
Vending Machine/ Out of home Nescafe Core demand for their products come from
products semi-urban and rural Sri Lanka. The
Nestea
increasing disposable income for the SL
Bulk Milkmaid middle class is a strong driver for NEST’s
Ready to Drink Packets Milo Rich life top product portfolio in the medium term.
Nescafe Daily
Nestomalt Elephant House
Kotmale NEST’s top products have the ‘unhealthy’
Coffee label stamped by the health conscious
Nescafe Bon Aroma
consumer. NEST may have to aggressively
Akbar Coffee renew their product portfolio in favour of
Bru healthier alternatives to woo back the
Milk Powder Nespray urbane.
Nespray 1+ etc

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 Dec-16 Dec-17 Dec-18 Dec-19 Dec-20 Dec-21 Dec-22 Dec-23
Summary Information
FY2016 FY2017 FY2018 FY2019 FY2020 FY2021E FY2022E FY2023E

EPS as adjusted (LKR) 81.87 67.67 64.88 47.76 54.85 62.18 65.94 68.37

EPS growth (%) 6.7% -17.3% -4.1% -26.4% 14.8% 13.4% 6.0% 3.7%

P/E (x) 24.5 x 24.0 x 26.2 x 27.2 x 23.2 x 16.9 x 15.9 x 15.4 x

Net asset per share (LKR) 102.05 89.36 104.89 102.55 110.45 117.62 125.56 133.93

P/BV (x) 19.6 x 18.2 x 16.2 x 12.7 x 11.5 x 8.9 x 8.4 x 7.8 x

DPS (LKR) 80.00 50.00 50.00 47.50 55.00 58.00 60.00 62.00

Dividend Yield (%) 4.0% 3.1% 2.9% 3.7% 4.3% 5.5% 5.7% 5.9%

Dividend Payout (%) 98% 74% 77% 99% 100% 93% 91% 91%

FCFF (LKR mn) 3,024 1,908 1,802 3,946 4,175 2,966 3,307 3,623

Mkt Price (LKR) 2001.9 1626.0 1700.0 1299.8 1275.0 1050.0 1050.0 1050.0

Weighted average shares (mn) 54 54 54 54 54 54 54 54

Average mkt cap (LKR mn) 107,553 87,358 91,333 69,832 68,500 56,412 56,412 56,412

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The top line increased by 15% QoQ while a tax reversal to LKR 75 mn in accordance with LKAS 12 adjustments trigger
170.3% increase in the bottom line

Revenue, NPAT and Tax

12000 2050

10000 1650

8000 1250

6000 850

4000 450

2000 50
2017 2017 2017 2017 2018 2018 2018 2018 2019 2019 2019 2019 2020 2020 2020 2020 2021
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1

Revenue (LKR mn) Profit for the period (LKR mn) Tax (LKR mn)

4
The cheapest NEST SL has traded in last ten years plus the cheapest in peer markets by a large margin

Price Earnings Ratio (P/E)

Nestle Listing PE Ratio
45.00
NEST SL 14.2
NEST IN - India 78.2
40.00
NESTLE PA - Pakistan 25
NEST NL - Nigeria 28.3
35.00

30.00

25.00

20.00

15.00

10.00
Jun-11 Dec-11 Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 Dec-14 Jun-15 Dec-15 Jun-16 Dec-16 Jun-17 Dec-17 Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 Jun-21

5
Historical EPS surpassed by Quarter performance with a growing trendline

Earnings Per Share (LKR)

35.00

30.00

25.00

20.00

15.00

10.00

5.00
2016 2016 2016 2016 2017 2017 2017 2017 2018 2018 2018 2018 2019 2019 2019 2019 2020 2020 2020 2020 2021
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1

6
NEST is a continuous dividend payer

Dividend per share (LKR) & Dividend payout

90.00 105%

100%
80.00
95%

70.00 90%

85%
60.00
80%

50.00 75%

70%
40.00
65%

30.00 60%
FY2011 FY2012 FY2013 FY2014 FY2015 FY2016 FY2017 FY2018 FY2019 FY2020

DPS (LKR) Dividend payout

7
What could go wrong?

• The health conscious urban niche will stay away if NEST doesn’t introduce new products. The portfolio leaders have
high sugar concentrate and also could contain palm oil, which raises sustainability issues and MSG/ carcinogenic
concerns

• Slow adaption to the global product portfolio of Nestle global

• An extension of the lockdown could disrupt the delivery channels although by the third wave even general trade
players have raised their delivery game

• Inflation could affect margins of the company.

• Exchange rate will pressure imported RM prices

• Continuous health challenges based on ingredients used (cancer causing oil, sugar content and use of palm oil).

8
Spiking raw material prices alongside bans on chemical fertilizer and palm oil warn of possible cost rise

Coconut Prices Palm Oil Prices

100
1200
90
80 1000

US $ per metric ton

LKR per coconut

70
60 800
50 600
40
30 400
20 200
10
0 0
Jun-20

Jul-20
Apr-20

May-20

Mar-21

Apr-21
Aug-20

Nov-20
Dec-19

Jan-20

Feb-20

Mar-20

Sep-20

Dec-20

Jan-21
Feb-21
Oct-20

Fertilizer Prices
600
500
US $ per metric ton

400
300
200
100
0

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DCF suggests a 28% upside on intrinsic value with a 5.7% forward yield

Volume (mn) Closing price (LKR)

DCF Based Valuation 300 3,000

Cost of equity (ke): 7.36%

250 2,500
Risk free rate (5 year bond rate) 5.18%
Equity risk premium 5.00%
0.40 200 2,000
Beta
Cost of debt (kd): 10.00%
WACC 7.44%
150 1,500

Enterprise Value (LKR mn) 73,228

(955) 100 1,000
Debt (LKR mn)
Other adjustments (LKR mn) -
Equity Value (LKR mn) 72,273 50 500
Number of shares (mn) 54
Target price per share (LKR) 1345.22
0 0
CMP (LKR) 1046.50
20/08/2016

20/02/2019
20/05/2016

20/11/2016

20/02/2017

20/05/2017

20/08/2017

20/11/2017

20/02/2018

20/05/2018

20/08/2018

20/11/2018

20/05/2019

20/08/2019

20/11/2019

20/02/2020

20/05/2020

20/08/2020

20/11/2020

20/02/2021

20/05/2021
Upside 28%

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 SHAREHOLDER SUMMARY As at 31st Mar 2021 % As at 31st Dec 2020 %

1. Nestlé S.A 48,793,746 90.82 48,793,746 90.82

2. Citibank New York S/A Norges Bank Account 2 493,037 0.92 493,037 0.92

3. Sri Lanka Insurance Corporation Ltd - Life Fund 264,404 0.49 264,404 0.49

4. Deutsche Bank AG-London 250,000 0.47 250,000 0.47

5. RBC Investor Services Bank-Coeli Sicav I-Frontier Markets Fund 241,342 0.45 241,342 0.45

6. Miss Harnam Neesha Joint Mrs. Jasbinderjit Kaur Piara Singh 200,000 0.37 200,000 0.37

7. Deutsche Bank AG Singapore A/C2 (DCS CLT Acc For Deutsche Bank Ag Singapore - PWM WM 155,600 0.29 155,600 0.29
Client)

8. SSBT- Al Mehwar Commercial Investments L.L.C 144,758 0.27 144,758 0.27

9. SSBT-Frank Russel Trust Company Comingled Benefit Funds Trust GNA-6QH3 124,680 0.23 125,396 0.23

10. Employees Provident Fund 100,000 0.19 100,000 0.19

11. BNYM RE-GHI Holdings Maruitius 75,000 0.14 75,000 0.14

12. Mrs. Jasbinderjit Kaur Piara Singh 72,194 0.13 72,194 0.13

13. Commercial Bank of Ceylon PLC/P.Subasinghe 65,000 0.12 68,000 0.13

14. Union Assurance PLC-Universal Life Fund 54,718 0.1 54,943 0.1

15. Union Assurance PLC/ Account No.5 (Unit-Linked Life Insurance Fund - Equity Fund) 54,442 0.1 54,718 0.1

16. Colombo Investment Trust PLC 50,904 0.09 50,904 0.09

17. Mr. Udeshi Morarji Meghji Joint Mrs. Asha Ajay Merchant 45,000 0.08 45,000 0.08

18. Mr. Hirdaramani Anil Kumar Lalchand 42,500 0.08 42,500 0.08

19. Mr. Maheswaran Radhakrishnan 36,671 0.07 36,671 0.07

20. Miss.Radhakrishnan Andal 36,667 0.07 36,667 0.07

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 Dec-16 Dec-17 Dec-18 Dec-19 Dec-20 Dec-21 Dec-22 Dec-23
Income Statement (LKR mn)
FY2016 FY2017 FY2018 FY2019 FY2020 FY2021E FY2022E FY2023E

Revenue 36,462 37,601 37,337 36,355 37,866 37,065 39,642 43,438

Cost of sales (22,275) (24,525) (23,487) (24,414) (25,647) (24,093) (25,767) (28,017)

Gross Profit 14,187 13,076 13,850 11,941 12,219 12,973 13,875 15,420

Sales, Distribution & Administration expenses (7,826) (7,419) (7,814) (6,687) (6,697) (7,043) (7,637) (9,020)

Other Operating Income 67 42 71 3 46 50 55 61

EBITDA 6,428 5,700 6,107 5,258 5,568 5,980 6,293 6,461

Depreciation & Amortization (625) (724) (754) (1,030) (968) (1,000) (1,034) (1,025)

EBIT 5,803 4,976 5,353 4,228 4,599 4,980 5,259 5,436

Exchange gains (80) (88) (205) (139) (102) (149) (149) (149)

Net finance cost (11) (153) (206) (319) (233) (6) 6 18

PBT 5,712 4,735 4,941 3,770 4,264 4,825 5,116 5,305

Taxation (1,313) (1,099) (1,456) (1,204) (1,317) (1,484) (1,574) (1,632)

After tax non-recurring items - - - - - - - -

NPAT 4,399 3,636 3,486 2,566 2,947 3,341 3,543 3,673

Minority Interest - - - - - - - -

Profit attributable to Equity holders 4,399 3,636 3,486 2,566 2,947 3,341 3,543 3,673

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 Dec-16 Dec-17 Dec-18 Dec-19 Dec-20 Dec-21 Dec-22 Dec-23
Balance Sheet (LKR mn)
FY2016 FY2017 FY2018 FY2019 FY2020 FY2021E FY2022E FY2023E

Cash & cash equivalents 393 129 218 508 2,508 1,275 1,581 2,633

Trade receivables 1,999 3,150 3,014 2,479 1,798 2,311 2,472 2,708

Prepayments 282 396 196 83 117 117 117 117

Other receivables 448 100 153 124 131 131 131 131

Inventories 3,935 2,870 2,988 3,486 4,948 3,605 3,856 4,193

Other current assets 248 761 854 434 440 440 440 440

Non current assets 5,980 8,170 10,237 9,756 9,270 9,620 9,836 9,761

Total assets 13,287 15,577 17,659 16,871 19,212 17,499 18,433 19,984

Trade creditors 2,763 2,621 2,362 2,780 3,919 2,860 3,059 3,326

Dividend payable 151 168 182 193 87 87 87 87

Other payables 1,606 2,149 2,273 2,171 2,307 2,307 2,307 2,307

Borrowings 313 2,592 1,524 988 2,054 821 878 1,520

Loans from related parties 899 1,220 1,313 805 1,893 1,893 1,893 1,893

Current tax liabilities 806 529 681 653 935 935 935 935

Non current liabilities 1,267 1,496 3,689 3,772 2,084 2,277 2,529 2,720

Total liabilities 7,804 10,776 12,024 11,361 13,278 11,180 11,687 12,788

Total shareholders equity 5,483 4,801 5,635 5,510 5,934 6,319 6,746 7,196

Total equity & liabilities 13,287 15,577 17,659 16,871 19,212 17,499 18,433 19,984

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 Dec-16 Dec-17 Dec-18 Dec-19 Dec-20 Dec-21 Dec-22 Dec-23
Key Ratios
FY2016 FY2017 FY2018 FY2019 FY2020 FY2021E FY2022E FY2023E

Gross profit margin (%) 39% 35% 37% 33% 32% 35% 35% 36%

EBIT margin (%) 5% -14% 8% -21% 9% 8% 6% 3%

Net profit margin (%) 12% 10% 9% 7% 8% 9% 9% 8%

Return on Total Capital (%) 82% 55% 42% 29% 36% 44% 47% 44%

ROE (%) 88% 71% 67% 46% 52% 55% 54% 53%

ROA (%) 35% 25% 21% 15% 16% 18% 20% 19%

Cash ratio 0.06 0.01 0.03 0.07 0.22 0.14 0.17 0.26

Inventory turnover 5.7 8.5 7.9 7.0 5.2 6.7 6.7 6.7

Working Capital turnover 13.86 11.45 10.61 10.65 12.60 12.60 12.54 12.70

Net operating cycle (days) 39 34 39 35 32 34 34 34

Asset turnover 2.87 2.61 2.25 2.11 2.10 2.02 2.21 2.26

Financial Leverage (x) 2.4 x 3.2 x 3.1 x 3.1 x 3.2 x 2.8 x 2.7 x 2.8 x

Debt to equity ratio (%) 5.7% 54.2% 62.7% 53.9% 36.0% 15.1% 15.7% 24.4%

Interest Coverage 132.70 27.14 21.28 11.88 16.90 24.95 91.52 88.46

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IMPORTANT DISCLOSURES AND DISCLAIMERS

Equity research methodologies and definitions

Equity research is based on a fundamental analysis of the companies covered, using the application of multiples and, where appropriate, discounted cash flow valuation models. In arriving
at equity research recommendations, macroeconomic conditions are also taken into account.

Equity research recommendations have the following definitions:

For 12 month timescale:
‘Buy’ expected absolute change of +20% or more
‘Add’ expected absolute change between +10% and +20%
‘Hold’ expected absolute change between -10% and +10%
‘Reduce’ expected absolute change between -20% and -10%
‘Sell’ expected absolute change of -20% or more

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