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CHINA CONSUMER STAPLES:ENERGY DRINK SECTOR OUTLOOK; BUY DALI FOODS AND CHINA FOODS

Energy drink: the energetic driver for soft drinks over the next three years
We expect the energy drinks sector to grow by 16% over the next three years,driven by growing consumer demand and increasing penetration by the mainplayers. In our view, Dali Foods, which has a 9% market share, is the bestproxy to invest in the rising trends. China Foods should also benefit through itscooperation with global lead brand Monster Beverage. We raise Dali's targetprice by 13% to HK$6.5, reiterating Buy. We maintain Buy on China Foods.
Increasing demand on changing consumer lifestyles
The China energy drink segment’s retail sales achieved a 16% CAGR in 2014-16, outperforming the soft drink sector’s 6% sales CAGR, according toEuromonitor. We think the main reason is changing consumer lifestyles –longer working hours coupled with increasing sports activates in leisure time.
Meanwhile, the rising penetration of major brands, such as Red Bull and Dali’sHi-tiger, is also driving market growth. We forecast the market will grow by16% in 2017-19, driven by increasing demand and growing penetration.
Easing competition due to Red Bull’s recent struggles
Red Bull is the leading player in China with an 80% value share in 2016. RedBull’s China franchising contract will expire in 2017 and is now in the processof being renegotiated, according to Xinhuanet.com. We expect the process toease competition in the energy drinks market, leading to more growthopportunities for other key players, such as Dali Foods and Shenzhen EastrocBeverage, which are the No.2 and No.3 brands by sales in China.
Dali Foods: well positioned in energy drinks; raising our target price to HK$6.5
Among the listed F&B names in HK/China, Dali Foods has the highest exposureto energy drinks with 16% of sales from its energy drink brand Hi-tiger in1H17. Hi-tiger’s sales grew by 43% yoy in 1H17, helped by fast industrygrowth and easing competition. We raise our earnings forecasts by 2-6% in2018-19 to factor in a higher earnings contribution from energy drinks. We arealso raising our target price to HK$6.5 based on DCF methodology (factoring ina 9.5% WACC and 2% terminal growth) and reiterate Buy. Downside risks:failure of soybean milk launch; higher-than-expected raw material costs.
China Foods: potential to monetize its contract with Monster Beverage
China Foods has been the bottler and distributor of Monster Beverage (theglobal leading energy drink brand) in China since 2016. We expect Monster’ssales contribution to China Foods to be limited in the near term, given thatmanagement is still focusing on internal restructuring. However, in the longterm, China Foods should be able to scale up its sales in the segment, helpedby Monster’s successful branding experiences in the USA and China Foods’sstrong distribution network. We reiterate Buy on China Foods and maintain ourtarget price at HK$4.5 based on SOTP. Downside risks include slower-thanexpectedasset restructuring.