Investment Highlights

• 1Q2019 was weak. Overall, upstream profits of the plantation companies under our coverage fell by 20% to 60% YoY in 1Q2019. Also, the decline in the core net profit of the integrated companies in 1Q2019 was not as sharp as the pure players as downstream earnings helped mitigate the slide in CPO prices. The exception was TSH Resources, which posted a 46.1% YoY increase in core net profit in 1QFY19 on the back of higher other operating income and a lower effective tax rate. The YoY fall in CPO prices in 1Q2019 could not be compensated by the increase in FFB production. Average CPO prices realised by the planters ranged from RM1,900/tonne to RM2,000/tonne in 1Q2019 (1Q2018 MPOB spot price: RM2,467/tonne). The CPO prices realised were 17% to 23% lower YoY in 1QFY19.

• FFB production in Malaysia rose in 1Q2019 in contrast to the weak growth in Indonesia. The companies in our stock universe recorded FFB output growth of 3.1% to 14.2% YoY in 1Q2019. In comparison, the Singapore-listed Indonesian planters registered weak increases in FFB production of -8.0% to 7.0% in 1Q2019. We understand that FFB yields were weak in Riau while in some areas in Kalimantan, heavy rains affected FFB harvesting.

• Industry FFB production in 2H is forecast to be higher than 1H. After the weak FFB production growth in Indonesia in 1Q2019, a few planters are guiding for a recovery in FFB output in 2H2019. Bumitama Agri said that its FFB production growth would be 15% in FY19F vs. 3.4% in 1QFY19. Golden Agri Resources said that its FFB output is expected to increase by 4% in FY19F compared with 2% in 1QFY19. In Malaysia, we believe that the YoY increase in FFB or CPO production would continue in the coming months. FFB yields are expected to improve in Malaysia in 2H2019 after being affected by the lagged impact of El Nino in 2018. In 2H2018, industry CPO production in Malaysia slid by 5.4% YoY.

• Production cost per tonne rose in 1Q2019. Production cost per tonne of most of the companies increased YoY in 1Q2019. This was mainly due to a fall in palm kernel credits and increases in labour and fertiliser costs. According to the MPOB, average palm kernel price declined by 40.0% YoY to RM323/tonne in 1Q2019. Several industry players have said that their fertiliser costs are envisaged to increase by more than 10% in FY19F. The exception was FGV Holdings, which recorded a drop in production cost per tonne in 1QFY19 due to a two-month delay in fertiliser application.

• Downstream earnings were mixed in 1Q2019. IOI Corporation’s downstream unit performed well in 1Q2019 underpinned by improved margins in the refining and oleochemical segments. EBIT margin (ex-associates and fair value changes in derivatives) of the division was 7.9% in 1Q2019 vs. 3.1% in 1Q2018. In contrast, KL Kepong’s downstream unit recorded a 15.4% drop in EBIT in 1Q2019 dragged by lower selling prices. Revenue of the division slipped by 14.5% YoY to RM2.29bil in 1Q2019. EBIT margin of the division (including fair value changes in derivatives) was unchanged at 4.7% YoY in 1Q2019.

• UNDERWEIGHT. We believe that CPO prices would continue to be in the doldrums as industry palm production is expected to increase in 2H2019. We would turn positive on the plantation sector if there are disruptions to supply, which would result in lower palm stockpiles. We are now assuming an average CPO price of RM2,100/tonne for Malaysia in 2019F vs. our previous assumption of RM2,300/tonne.

Source: AmInvest Research - 7 Jun 2019