Price Competition Hurts Hengan's Profits; Competition May Ease, but Higher Costs to Kick In

No-moat Hengan's first-half results were disappointing, with sales and operating profits down 8.7% and 20%, respectively. Intensified price competition depressed the top line and gross margins while consumers’ channel shift continued to damp sales at the brick-and-mortar channel, Hengan’s strength. We expect cost inflation will weigh on margins but ease price competition into the second half. Additionally, tightened competition rules of online channels could reduce discounting. We have cut our 2021 profit forecasts by 9% to reflect the first-half weakness and higher input costs. The adjustments were largely offset by the increased time value of money, leaving an immaterial impact on our HKD 73 fair value estimate. Concerns about raw material cost inflation and price competition might continue to weigh on the share price until we see the negative impacts dissipate.