Investment Highlights

• We downgrade Ann Joo Resources (Ann Joo) to UNDERWEIGHT from HOLD with a lower FV of RM0.97 (from RM1.32 previously) based on 8x revised FY20F FD EPS of 12.1 sen (from 16.5 sen previously). We cut FY19– 21F earnings by 49%, 28%, and 10% respectively, underpinned by lower average selling price (ASP) of steel in the competitive local market coupled with a higher input cost of iron ore due to the global supply shortage.

• Ann Joo’s 1QFY19 results missed expectations. It reported a net loss of RM6.6mil, vs. our full-year net profit forecast of RM104mil and the full-year consensus net profit estimates of RM109mil.

• The 1QFY19 losses were mainly due to: (1) a steep drop of steel ASP averaging RM2,100/tonne vs. RM2,700/tonnes a year ago (Exhibit 2); (2) a higher-than-expected iron ore price with an average US$83/tonne vs. US$70/tonne in the 1QFY18. Not helping either, were the generally weak demand for building materials and stiffer competition from a foreign-controlled steel producer in the local market.

• The company guided for a soft 2QFY19F mainly due to the higher input cost of iron ore that hit the 5-year record high of US$100/tonne recently underpinned by the major supply distruption from Vale dam in Brazil, the biggest iron ore producer in the world (Exhibit 3). In addition, reduced construction activities during the festive season coupled with a major blast furnace maintenance will affect the earnings for 2QFY19F. However, we believe that the company could see some light at the end of the tunnel in 2HFY19F backed by the potential revival of the LRT3 project (of which Ann Joo claims to be the main supplier).

• Meanwhile, we now assume: (1) a lower steel ASP of RM2,100–RM2,300/tonne (from RM2,300–RM2,460/tonne) backed by the competitive competition; (2) a higher iron ore price at US$85/tonne reflecting the disruption in the supply; and (3) the same 0–1% growth in our sales volume assumption due to the lower steel demand growth in the local market for the next three years.

• We remain cautious on Ann Joo as its fortunes as a long steel player are inevitably tied to construction sector, of which prospects have weakened. Given the still elevated national debt, the government has no choice but to remain steadfastly committed to fiscal prudence which means the revival of the East Coast Rail Link project could be a “zerosum game” as it may impede the government’s ability to implement other public infrastructure projects.

Source: AmInvest Research - 29 May 2019