OBJECTIVES OF THE ANALYSIS To analyze the current industry climate and prospective economic condition for F&B industry

y in Malaysia To analyze the financial performance of Nestle (M) Berhad for the past 5 years (04, 05, 06, 07, 08) To determine the strategies used by Nestle to gain sustainability and competitive edge in F&B industry in Malaysia.

INTRODUCTION The company started in Malaysia in 1912 as the Anglo-Swiss Condensed Milk Company in Penang and moved to Kuala Lumpur in 1939 as its Penang plant could not accommodate its growth and expansion. Nestle built its first factory in Petaling Jaya in 1962 via Food Specialities (Malaya) to produce sweetened condensed milk, tomato, chilly sauces and Milo. Nestl Malaysia now manufactures its products in 7 factories and operates from its head office in Petaling Jaya with 6 sales offices throughout Malaysia. The group was publicly listed on the KLSE on Dec 13, 1989. Today, the group has more than 5,000 employees and manufactures as well as markets more than 300 halal products in Malaysia.

Shareholding Structure. Nestle SA is the largest shareholder with a 72.61% stake in the company. The EPF is the second largest shareholder at 6.87%, with the remainder held by other institutional investors and retail investors. Nestle is principally involved in the food, beverages and nutrition industry which is categorized into four product segments: Beverages: Nestle manufactures two famous household drinks in Malaysia, namely NESCAFE coffee and Milo chocolate malt drink. Nestle beverages play an important part in the day of almost every man, woman and child in Malaysia. Currently, Milo enjoys a 90% share of the overall chocolate drink market in Malaysia Milk, Nutrition and Ice-cream: Nestle specialises in growing up milk, full cream/filled milk and adult milk with familiar names such as Nespray, Neslac, Nesvita, Nutren and Omega Plus. Nestle ice cream has grown into the number one ice cream in Malaysia and has the largest distribution network, including Brunei. Nestle ice cream products are manufactured in their factories located in Chembong (Peninsular Malaysia) and Kuching (East Malaysia)

 Prepared dishes, cooking aid and others: Aside from that, Nestle manufactures packaged soups, frozen meals, prepared sauces and flavourings under the brand name Maggi. It is the leading brand name for instant noodles as well as cooking aids. Confectionery: Nestls range of confectionery products, namely KIT KAT and Smarties, have grown to be the No.1 chocolate brand in Malaysia, and are enjoyed by both young and old as a light snack. Today, it is exported to more than 11 countries in Asia.

THE INDUSTRY CLIMATE RELATION TO CURRENT & PROSPECTIVE ECONOMIC CONDITIONS OF FOOD AND BEVERAGES (F&B) INDUSTRY IN MALAYSIA.

Overview of the F&B industry. Overall, we think the outlook for the F&B industry is generally good given that it is a resilient industry with food as the last expense that one would cut down on as per OSK Research on Dec 23, 2007 Consumer Survey report. The survey found that only a small fraction of consumers (approximately 20%) would cut back on food compared with other measures taken to counter the economic slowdown. About 90% of those in the higher income bracket with average monthly incomes of more than RM 7,000 claim that the current outlook would have an impact on their spending habits.

Private Label versus Branded Items. Although food is the last expense that one would cut down and is largely unaffected by economic cycles, we believe consumers may turn to cheaper alternatives i.e. private labels, particularly for food products that do not have strong differentiation such as fresh, commodity-type food. Nonetheless, we believe that private labels may not be as in such high demand in Asian countries compared to the Western countries. This is evident in Great Britain and US where private labels command 43.1% and 17.8% market share of food labels respectively. Malaysian private labels do not hold any share of the market while the top 5 brands in the food and beverage industry command 39.7% of the total market share in Malaysia. Hence, we do not think private labels will pose a threat to the food and beverages industry given that the price difference between a private label product and branded product is insignificant although the quality of the two products would differ substantially.

Current economic slowdown would impact the F&B sector as there would be a contraction in private consumption in 2009. While the option to reduce EPF contribution by 3% has been laid out by the government, this stimulus will have minimal impact on consumption. Previously, our concerns of a slowdown in spending were founded on the impact of inflation squeezing disposable income. However, with inflationary pressures abating, the slowdown in spending is now underpinned by the deterioration in consumer sentiments. Historically, the consumer sector has always been resilient during economic downturn especially the F&B sector. The food related business will usually outperform the market during economic meltdown. The declining commodity prices is a blessing for most of our consumer stocks as raw material costs remain fat contributors to a downward pressure in earnings. On top of that, most retailers will pass on the cost to consumers hence, adding burden to the people during difficult and challenging times. Although, during the volatile and chaotic mid-2008, most corporations took steps to counter-measure the escalating costs in order to preserve cost-efficiency, many others absorbed the hike and faced margin compressions. The price volatility of raw materials, especially milk solid (Figure 1), wheat flour and coffee, is the main concern for F&B producers. Adverse weather conditions (i.e.drought in Australia) have in the past adversely affected the crop, leading to a shortage of supply. Most of the raw materials other than palm oil and cocoa are imported. Milk solid is typically imported from Australia and the Netherlands.

Health scares may also dampen sales, as the SARS outbreak did to poultry sales in 2003. A more recent example is the widespread melamine concern which spoiled milk sales in 2008. Nestles selling price reduction for milk products and Milo effective Feb 09 has helped to contribute to the fall in the food & non-alcoholic beverage component of the Consumer Price Index (Figure 2). However, selling prices may rise in 2010 if producers cost efficiency initiatives fail to offset higher input costs. Already, the government is mulling over the possibility of removing the subsidies for sugar and fuel.

KNOWLEDGE OF NESTLE AND THE QUALITY OF ITS FINANCIAL STATEMENT According to TA Securities Holding Berhad, Nestle has indicated that it is prepared for a global recession and has found ways to become more efficient in a slow moving economy. Apart from that, Nestle is also part of the government's "nourishing Malaysia" campaign with its Popularly Positioned Products (PPP) targeting the low income earners. This is a plus point for the company as it reflects its corporate responsibility (CR) measure even during difficult times. Fundamentally, this campaign would hurt Nestle's margin as selling prices would be lower. However, we are of the opinion that this could be offset with higher volume of sales. We believe prices of commodity would tumble further in 2010. We have seen the signs of it but to compare, prices are still higher today than it was a year ago. We are also expecting Nestle's margins to stabilize with lower commodity prices to offset lower selling prices of its Popularly Positioned Products (PPP). Nestle's aim to emphasize on nutritional food is another plus point. We are of the opinion that Malaysians are becoming more aware on nutritional facts especially after the melamine scare that rocked the world sometime this year. The challenging economic environment notwithstanding, Nestle continued to invest in building its brands. Staying competitive, building and protecting market share are always the Nestles priority to ensure long term sustainable objectives are met. During the first nine months, Nestle continued with its plans of launching major marketing campaigns such as promoting NESCAFE coffee containing antioxidants and MILO Play More, Learn More. Promotions were also focused on giving more value to the consumers, such as discounts. Nestle continued focus on prudent spending and on full cost optimisation across the entire value chain with greater emphasis on "war on waste", has helped during the tough economic climate. Nestle has been proactive in tracking performance and focusing on action plans to address gaps. There was some good news in the form of lower input costs as, since late 2008, the prices of most major commodities have stabilized. The Group remains cautious for the balance of the year, as some commodity prices such as Cocoa, Skim Milk Powder and Sugar are showing an upward trend.

NESTLE EXTERNAL AUDITOR

KPMG International KPMG is a global network of professional firms providing Audit, Tax and Advisory services. We operate in 144 countries and have 137,000 people working in member firms around the world. The independent member firms of the KPMG network are affiliated with KPMG International, a Swiss cooperative. Each KPMG firm is a legally distinct and separate entity and describes itself as such. KPMG (the Malaysian member firm) KPMG first established a presence in Malaysia in 1928 and the Malaysian firm has grown to be a part of the global success of KPMG's network of firms. KPMG's operations in Malaysia are carried out in association with KPMG Desa Megat & Co. The Malaysian firm now has 65 partners and over 1,700 staff located across 10 offices. The Importance of Audit Quality The quality of financial statements is the primary responsibility of the Board of Directors and management. Auditors are the external party appointed by the shareholders to conduct an independent audit on the financial statement and to offer a professional opinion on the true and fair view on the state of affairs and result of the said company. Although the responsibilities of auditors have not changed, the operating environment has grown complex over the years. Audit quality is viewed as one of the important factors that affect the credibility of financial statements. Users are more likely to demonstrate high level of confidence on the information presented in the financial statements if the audit of the financial statement is perceived to be of high quality. Hence, the auditors are expected to demonstrate the highest possible due process in discharging their responsibilities. With the introduction of International Standards on Quality Control (ISQC 1) since July 2006, audit firms in Malaysia have been mandated to adopt this international standard to enhance their operations so that they can be benchmarked against the international requirements.

The adoption of ISQC 1 standards is expected to shift the audit firms traditional focus on building individual competency towards the entire organization. It is the team that delivers the quality reports. Although the cost of audit had risen somewhat since then, it is nevertheless seen as a positive development within the profession. Recent study by some of the firms in Malaysia has shown that fees payable to the auditors in Malaysia is still the lowest in the Asean region. ISQC 1 prescribed the quality elements within a practice, starting with the strategic leadership within the firm with emphasis on quality all the way down to how decisions should be properly documented. ISQC 1 emphasis on 6 major elements, which are:

EVALUATION OF NESTLES FINANCIAL STATEMENT Financial Review Earnings Growth

Earnings growth has been consistently strong and not affected by the economic slowdown, as evidenced in 1998, 2001 and 2003, during which net profit margin remained at a strong level in the range of 6%-8%. In the future, its margins would continue to improve as the company implements Nestles Continuing Excellence programme, which emphasises on cost cutting and minimal wastage.

Export Market

In general, approximately 20% of its sales come from export markets, especially to South East Asia and Middle-East. In addition, the company is consistently looking at a new market in order to diversify its risk. Recently, it started to export milk powder to Algeria. Nestle Malaysia is the Centre of Excellence for Halal within the Nestle Group. 7

Liquidity Ratios

From 2004 to 2008, Nestles current ratio and quick ratio was below the average. Although, it is not good, one-third of the liabilities are from related companies and an associate which are unsecured and interest free. In addition, effort has been made in order to improve quick ratio by reducing the inventory.

For the industry, the average collection period is between 30 days and 60 days. Nestle is better in this as it managed to collect in 31 days to 35 days from 2004 to 2007 and improved further to only 18 days in 2008. This is mainly due to the collaboration with American Express and Maybank, which allows its distributors to make payment through distributor cards and hence reduces the risk of bad debts. So far, 80% of Nestles long term partners are in this program.

Debt Management Ratios

Nestles debt to assets ratio is quite consistent and acceptable which is on average of 63%. However, its debt to equity ratio increased from an average of 162% from 2004 to 2007 to 222% in 2008. The reason for this sharp increment is because the company had reduced its retained earnings by more than RM100 million by distributing that as dividends.

Asset Management Ratios

Account receivable against net sales is very consistent at approximately 10% and very acceptable. It will reduce the risk of late payment or bad debts and subsequently improve the cash flow management of the company.

The average inventory turnover is 6.7 times or approximately 2 months. This is in line with the other companies in the same industry.

10

Profitability Ratios

For return on equity, from 2004 to 2007, it was very stable at an average of 48% and sharply improved in 2008 to 66%. The reason for this rise is because of lower equity as the company distributed it retained earnings. For return on total assets, it is very consistent at an average of 19%.

Return to Investors Ratios

11

Both Earnings per Share (EPS) and also Dividend per Share (DPS) showed an increasing trend. In addition, in 2008, DPS exceeded the EPS as the company used its retained earnings to distribute the dividend.

From 2004 to 2008, the dividend yield of Nestle rose from 3.5% to 7.1%. The big increase in 2008 was mainly due to strong performance of the company, high retained earnings and to reward its shareholders. In general, the dividend yield of Nestle is higher than the current fixed deposit rate of about 3% per annum. Beverages and Maggi range to drive growth. Due to the nature of the business as well as its effective cost management, Nestle has consistently grown its revenue amid recessionary pressure at a stable average of 7%. We believe Nestles key products such as Milo, Nescafe and Maggi will continue to drive growth. This is particularly obvious as Nestle intends to increase capacity at its Petaling Jaya plant from 85,000 tonnes to 215,000 tonnes in 2015, in which, part of the expansion is to double its coffee capacity and to set up a new manufacturing plant for non-dairy creamer, which was previously imported. In view of the economic slowdown, we believe more consumers would be opting for cheaper meals or cook at home more, hence we think the Maggi range would benefit from such behaviour as Maggi products (instant noodle and culinary aids) are cheap, convenient and easy to cook. For instance, a pack of Maggi noodles would merely cost 60 sen compared with a meal in a local restaurant, which costs at least RM5, excluding drinks.

12

CONCLUSIONS / FINDINGS SUMMARY Nestle (M) well establish since 1912 in Malaysia. Nestle has nourished Malaysian since 1912. Through the year, generation of consumers have trusted Nestle not only the quality brands and products, but also its commitment to improve lives of the local community. Its brand name such has MILO, NESCAF, MAGGI, NESPRAY and KIT KAT have become trusted household names and enjoyed for generations. Nestle (M) has competitive edge in F&B market in Malaysia Nestle become the leading multinational company in food, nutrition and wellness in Malaysia. Nestle produce and sell world-class products of the highest consistent quality, reliability and convenience based on business excellence principles throughout our operations. They also maximize the use of good quality local raw materials. Instead of maximizing profits, they are also responsible to corporate citizen, fulfilling all obligations of government, shareholders, customers, communities and consumers. The quality of Nestle (M) audited reports in line with the international standards (ISQC1) Since Nestle appointed KPMG as their external auditor, the quality of audited report cannot be questions because KPMG standard abide with the International Standards on Quality Control (ISQC 1). The financial aspects disclosure follows the principles of true and fair view, prudence and transparency. Nestle cannot sweep things under the carpet. External auditor of Nestle (M) (KPMG) is reputable and reflected by their presence since 1928 KPMG understand the way of their clients run their businesses and drive their performances and the way this impacts their financial statements. KPMG's extensive experience and proprietary tools have enabled us to provide seamless service to Nestle across industry sectors and geographical boundaries. In addition to attestation work, KPMG also provides risk advisory services like internal audit, enterprise risk management and IT audit services to Nestle.

Strong and robust financial statement that has reflected in the last 5 years The financial statement of Nestle is strong and robust for last 5 years. We can see that after various ratios are taken into consideration, Nestle has showed a lot of improvement year by year. The economic downturn has not reflected Nestle performance at all. Nestle managed to sustained their growth in the last 5 years.

13

RECOMMENDATION

Increase net profit by 1% to 2% on next following year Nestle (M) gains profit 6% - 8% based on last year. We would recommend Nestle (M) to increase their net profit by another 1% to 2% on next the following year. The economic downturn has not affected Nestle at all. So, Nestle (M) needs to use this opportunities to gain more profit by cutting the cost of production but at the same time maintain the quality of products. Nestle (M) also can gain profits by aggressive sales to gain more revenues.

Increase another 10% export to South East Asia Current export of Nestles products to South East Asia is 20% from the total production. We would like to suggest to Nestle (M) to increase their export for another 10% to South East Asia. So, it means that for the local market product, the percentage is reduced to 70% and for the South East Asia, the percentage is increased to 30%. Our purpose for suggesting this idea is as a backup plan for Nestle (M) if Malaysia suffers internal economic crisis, Nestle can rely on revenue from its export.

Diversify more in Halal industries As Muslim populations are increasing year by year, the demand for Halal products have also increased. We can realize that it is an opportunity for Nestle to produce and become the main player in the Halal food and beverages industries. So that we can put the image of Nestle as a manufacturer which imports and distributes only products which have been certified Halal by authorised Islamic certification bodies. Although Nestle (M) has established an internal Halal Committee in the 1980s comprising Malaysian senior Muslim scholars from multi-disciplines who responsible for all matters pertaining to Halal compliance, Nestle should expand the Halal committee to include Islamic Scholars from other countries also. Currently, Nestle is the biggest Halal producer in the Malaysia F&B industry which has warrants its appointment as the Halal Centre of Excellence for Nestle worldwide. Nestle (M) should collaborate more with Nestle International to emphasis the Halalness of all Nestle (M) products line.

14

LESSONS LEARNED Standard annual report of Nestle (M) Berhad gives us lots of information to identify the general financial condition of the company. An annual report is a document produced annually by companies designed to portray a true and fair view of the companys annual performance, with audited financial statements prepared in accordance with company law and other regulatory requirements, and also containing other non-financial information such as: A Balance Sheet A Profit and Loss Account A Cash Flow Statement A Directors Report It also provides information about performance and changes in the financial position of an enterprise that is useful to a wide range of users in making economic decisions. The annual report is also an opportunity to publicize the corporate image. Annual report doesnt give information to conduct detailed analysis especially in the areas of marketing, production and costing. It totally focuses on financial statement. The importance of external auditor and the quality of the financial statement will reflect the company trustworthiness to the stakeholder. The importance of external auditor is beyond the compliance requirements of an entity. It helps the credibility of the reported financial statements because of the external auditors audit will justify the real story of the firm. Moreover, external auditors are more exposed on the audit of various audit entities and industries than internal auditors which are employed by an entity. Consequently, external auditors can provide their audited entities with appropriate recommendations to improve their accounting system and internal control that will accordingly boost their operational effectiveness and efficiency. Appointed establish auditor will boost image of the firm amongst the stakeholders because their audit is on international standards.

15

Knowing What's Behind the Numbers. The numbers in a company's financials reflect real world events. These numbers and the financial ratios / indicators that are derived from the financial analysis are easier to understand if we can visualize the underlying realities of this essentially quantitative information. For example, before you start crunching numbers, have an understanding of what the company does its products and/or services, and the industry in which it operates.

16