Investment Highlights

• We are keeping our SELL recommendation on Kuala Lumpur Kepong (KLK) with an unchanged fair value of RM23.12/share. Our fair value for KLK is based on an FY20F PE of 27x. We have tweaked KLK’s FY19E net profit downwards by 2% to account for a weaker manufacturing EBIT margin.

• We expect KLK’s core net profit (ex-impairments) to fall by 8.5% in FY19E mainly due to a 12.4% drop in plantation earnings and 1% decline in manufacturing (mainly oleochemical) EBIT. Selling prices of products in both units are falling.

• For the plantation division, we have assumed an average CPO price of RM2,100/tonne for FY19E compared with RM2,335/tonne achieved in FY18. In respect of the manufacturing unit, selling prices of oleochemical products have been easing in line with the declines in palm product prices. According to MPOB, spot prices of crude palm kernel oil and RBD palm stearin have slid by 9% to 28% year-to-date.

• We have assumed an FFB production growth of 4.5% for KLK in FY19E and 3.0% in FY20F. We believe that industry FFB output would reach its highest level either in October or November. This means that KLK might not be able to capture this in its FY19E results as its year-end is September. KLK achieved an FFB output growth of 4.9% YoY in 9MFY19 (FY18: 1.4%).

• Driving KLK’s FFB production growth is the Indonesian division, which accounts for about 54% of group FFB output. Malaysia makes up the balance 46% of KLK’s FFB production. Liberia’s contribution is still very small.

• FFB production growth in Indonesia is expected to be more than 5% in FY19E while in Peninsular Malaysia, FFB output growth is estimated to be 3%. In Sabah, KLK’s FFB production growth is envisaged to be negative in FY19E as the group is replanting about 2,000ha to 3,000ha of ageing oil palm trees.

• We forecast KLK’s manufacturing EBIT (mainly oleochemical) to decline marginally in FY19E dragged by weaker selling prices. KLK does not have significant pricing power in the basic fatty acid product segment as industry competition is stiff.

• We have assumed an EBIT margin of 4.1% for the manufacturing division in FY19E vs. 4.3% in FY18. Malaysia is expected to account for about 60% of KLK’s oleochemical profits while Europe is envisaged to make up another 30%. The balance 10% of oleochemical EBIT come from Indonesia and China.

Source: AmInvest Research - 10 Jul 2019