SINGAPORE (July 30): RHB Research is downgrading Dairy Farm International (DFI) to “neutral” from “buy” with a lower target price of US$9.60.

In a Monday report, RHB analyst Juliana Cai says, “While we are positive on long-term prospects, we expect to see operational expenditure remaining high over the next 12-24 months as it restructures and invest in stores and IT infrastructure.”

To recap, DFI reported a 6% in 1H18 earnings to US$225 million ($306.2 million) from its 1H17 restated earnings of US$212 million.

Combined total sales for 1H18, including 100% of associates and joint ventures (JVs), was US$12.2 billion, a 17% increase from US$10.4 billion a year ago, mainly due to strong growth in its China-based supermarket retailer associate Yonghui as well as its catering associate, Maxim’s.

Revenue by DFI’s subsidiaries were 8% higher than last year at US$5.9 billion compared to US$5.5 billion previously, or 6% higher at constant rates of exchange.

See: Dairy Farm posts 6% growth in 1H earnings to $306.2 mil on higher sales

Cai expects China-based supermarket retailer associate Yonghui to chart slower growth as it invests in new digitised offline format Chaoji Wuzhong, which will lead to start-up losses in the current gestation phase.

In contrast, the group’s health & beauty segment is expected to show strong performance in 2H18, with the increase in mainland Chinese tourists in Hong Kong and Macau driving the growth.

“However, we note that the food division experienced higher rental and labour cost in Hong Kong in 1H18. As such, we think there could be potential cost pressures limiting further margin upside for the health & beauty segment moving into FY19F,” says Cai.

As for the group’s supermarket segment that saw operating profits halved y-o-y, led by Southeast Asian losses, the analyst believes that turning the business around would involve more time and cost.

The group’s health & beauty segment recorded strong results, with its revenue increasing by 20.4% to US$1.48 billion. But these gains were diluted by losses from the South East Asia supermarket segment and weak performance from Yonghui.

The group has a five-year transformation plan to eventually improve market proposition, supply chain competence and omni-channel capabilities.

DFI has declared an interim dividend of 6.5 US cents for the period.

RHB prefers Sheng Siong for Singapore-listed consumer stock instead, as it is trading at 19 times FY18 earnings, representing a discount to DFI.

“We think [Sheng Siong] offers a defensive investment since almost all of its income is derived from Singapore,” adds Cai.

As at 10.35am, shares in DFI are trading 3.4 US cents lower at US$8.81, or 23 times FY19 earnings with a dividend yield of 3.0%.