Scandinavian Tobacco (STGDC; Baa3/NR) 5Y FV

exp. €300m 5Y IPT MS +290-300 vs. FV 210 (-80)

• Coupon step up of +125bps if rating moves below IG. Step down if reinstated into IG.
• CoC put
• Cheap view valid > +230

This is our first cheap view in consumer since Barry Callebaut priced a 5Y in early June (-10 since vs. €IG +7, with ~20-40bps of excess carry/yr). Please scale risk for size of co here (~€1b in sales vs. majors doing €10-30b) - though it does target a niche (of cigars and pipe tobacco). We don't expect supply but co is open to M&A so not ruling out a revisit. Operating performance shows weak trends and that is unlikely to change with co looking very low exposed to growth areas (next gen products - like vapes, pouches etc.). As cigar focused it's also running lower margin than most of the majors that run 40-handle on EBITDA (ex. Imperial that runs similar 20-handle). 1.25% step-up on HY ratings helps us firm up a view.

The perps are being weighted only a small amount in our FV (would be wider otherwise on equal rated BAT perps). We are giving more weight to the snr curves including equal rated Imperial - FV is conservative +80bps to its 5Y.

Background:

• This is a €1.2b in sales co that considers its core handmade and machine rolled cigars (2/3 of sales). It is NA focused with reporting otherwise split only into Europe. It says it is the ~1 in handmade cigars for US and #1 in Machine rolled cigars for Europe. Despite reporting only focusing on US and EU, Moody's in 2020 saw market leading machine rolled cigar positions in Aus. and Canada and noted presence in more than 100 countries giving "good geographical diversification".
• Handmade cigars are rolled at Dominican Republic, Honduras and Nicaragua - EM countries - while Machine rolled and smoking tobacco is manufactured across a mix of countries that includes DM countries, Denmark and now in the US.
• It has 3 divisions; 1) Europe branded (sales into Europe) - 33% 2) North America branded including rest of the world - 35% and 3) US online and retail - 32%. Near even split between the three.
• 1) Europe branded is 73% machine rolled cigars with another 19% in smoking tobacco - I.e. light on handmade. Sales growth here has held flat in recent years with EBITDA margin volatile around 20-30% range. Tad surprising it is lagging NA & RoW below given hand-rolled are labour intensive/seen as margin dilutive.
• 2) NA branded & RoW. Rest of the world here includes a large mix. Product split is also more balanced here and includes 30% from handmade cigars. Sales has been growing here bar '23, EBITDA margins are higher running 30-40%.
• 3) NA Online and Retail is a direct-to-consumer done through 1) 6 online platforms that make up 81% of this segment (see cigar.com, cigarbid.com, cigarsinternational.com among others) and 2) 9 brick and mortar retail stores across 3 states making up only 9% of this segment. It is focused on handmade cigars (81%) and not exclusive to retailing its own brands in this segment. It does seem to be targeting new store openings and considers this a growth area - it was planning 3-more in 2024. Sales where growing but are more flat recently, EBITDA margins are the lowest of the three at 15-20%.

Financials:

• 1H sales were +1.5% (organic), EBITDA margin was 21.2% (-240bps). FY24 guidance is for net sales in DKK8.8-9.1 range (~€1.2b) - midpoint implies +2.5%yoy growth. EBITDA margin 22-24% (continuing to fall; from 24.1% in '23 and 25.9% in '22). FCF before acquisitions of DKK0.8-1b (€110-€130m) again on a move lower (€1.05b in '23 and 1.3b in '22 - both ex. acquisitions). Note it has already done DKK535m/€70m acquisition of {3973124Z DC Equity} this year.
• Leverage target is net 2.5x. At the end of June it was carrying DKK5.4b (€720m) of net debt at 2.6x levered (vs. 2.3x in 1H23, and 1.9x in FY23). Cash on hand is a small DKK90m (€12m).
• No net supply here - it is tendering only other public debt (€300m 25s) at MS+105 (closed at +137 the day before).
• More supply looks unlikely bar M&A linked needs; not a growing co, at top end of leverage target, front maturity after prefunded '25 bond is the €450m 2027 RCF.
• It is publicly listed with a market cap of DKK 9b (€1.2b), trading at a P/E of 8x (in-line with BAT and Imperial). No majority owner but Danish Asset Manager,Chr. Augustinus Fabrikker Akts, does own >25% (according to roadshow).